AN EXAMINATION OF THE MWSS CONCESSION AGREEMENTS

AS A MEANS OF INVESTING THROUGH PRINCIPAL-AGENT

CONTRACTED-OUT OPERATIONS IN THE WATER UTILITY SECTOR

A Thesis Presented to the

Ateneo de Manila School of Law
Ateneo de Manila University

In Partial Fulfillment of the

Requirements for the Degree of
Juris Doctor

Authored by:

Jay Patrick R. Santiago

2008
 i

Acknowledgment

The completion of this work has entailed a lot of time, work, and dedication.
Nonetheless, witnessing this work bloom from a few words into an array of
chapters has been most fulfilling. I thank the Almighty One for lighting my path
towards this achievement.

Truly, this work would not have been completed on my own, if not for the
help of other wonderful individuals, who, in addition to their patience, have spared
a few moments of their precious time and have shared unquestionable brilliance in
their respective fields. This work, more than being my own, is equally theirs. To
the following I most graciously submit my whole-hearted gratitude:

My parents, Joselito and Precy, for having been there to

support my studies, for the love and motivation to continue amidst
the difficulties of life in law school;

My adviser, Dr. George Carmona, for the guidance,

continuous appreciation and ideas for the molding of this work;

People from the MWSS, MWSS Regulatory Office, and the

MWSS Board of Trustees, for their hospitality and accommodation
when I was conducting my research in their offices;

Warriors of the law, Dean Cynthia del Castillo, Atty. Pedro

Jose Bernardo, Atty. Noel Ostrea, Atty. Quimson, and Atty. Jaime
Hofileña for sharing their priceless brilliance in their respective
fields of expertise;

Disciples of the equally brilliant profession of Accountancy,

CPAs Dexter Ortega, Jay Cesar Beron, and Ralph Calinisan, for the
assistance in understanding technical terms mentioned in the MWSS
Concession Agreements; and

Lastly, my friends Athena, Bo, Jomi, Nina, Caleen, Ona, JD,

Mike G., Leah, Ryan, and the other members of class 4C AY 07-08
for sharing their ideas and for making this endeavor a lot less
stressful.
 ii

"If you gave me several million years,

there would be nothing
that did not grow in beauty
if it were surrounded by water."

-- Jan Erik Vold, 1970

 iii

Abstract
Models for privatization have been structured in order to address the national
policy of privatizing State-owned enterprises, as demonstrated by the past
administrations. A case of contracting with private companies where the
concessionaire acts as a mere agent for the public utility calls an extensive
examination on its legal consequences. When the provision of water services, a
public utility, was privatized by the government, is it legal for the government thru
the MWSS to award it to a private entity through a regular contractual
arrangement instead of the usual award of franchise? When the government
contracts-out the operation of MWSS through a concession agreement, are the
concessionaires considered as the public utilities themselves or mere agents of the
principal public utility, MWSS? Consequently, is a concession agreement
compatible with the law on agency? What are the legal consequences when the
concessionaires are considered as public utilities themselves?
After extensive research, the author finds, in accord with law and
jurisprudence, that a franchise or a certificate of public convenience or certificate
of public convenience and necessity are not at all times required for the operation
of the MWSS Concessionaires. First, the MWSS Charter allows it. Second, the
National Water Crisis Act has allowed the President to privatize the MWSS without
any restriction. Lastly, the Concession Agreements would allow the model to fall
under the exceptions provided under the Public Service Act. Moreover, the
Supreme Court held in the case of Albano v. Reyes that franchises issued by
Congress are not required before each and every public utility may operate. In
addition, waiting for a legislative franchise to be passed in order for a public utility
to operate will require unreasonable amount of time.
The author also concludes that the concessionaires cannot be considered as
agents under the MWSS Concessionaire Agreements. An agency agreement is
incompatible with contracting-out the functions of a public utility because the
agents, as operators, must be personally liable under public utility regulations even
if they act within the authority vested by the principal. Consequently, as public
utilities themselves, the concessionaires are personally bound by public utility
regulations. Thus, each of the concessionaires is mandated by jurisprudence to set
its rate of return to 12% of the present market value of its assets actually devoted to
public service. They are not allowed to charge income taxes paid as part of
operating expenses as held in the 2002 and 2003 cases of Republic v. Manila
Electric Company. They are also subject to the requirements, conditions, and
consequences provided in Section 11, Article 12 of the 1987 Philippine
Constitution. They are subject to the Commission on Audit’s authority to audit
public utilities. Lastly, the concessionaires are also within the purview of Sections
17 and 18 of Article 12 of the 1987 Philippine Constitution pertaining to public
utility take-over and industry nationalization, respectively.
 iv

In view of the foregoing, the author recommends the following guidelines in

revising the MWSS Concession Agreements: make the Concession Agreements as
clear as possible; in drafting concession agreements, the Concessionaires must
never be referred to as agents; make the contract couched on the fact that the
concessionaires are public utilities; refund payments collected in excess of the
statutorily limited rate of return and proceed with Extraordinary Price Adjustment.
 v

TABLE OF CONTENTS

CHAPTER 1: INTRODUCTION --------------------------------------------- 1

A. Background of the Study ---------------------------------------------- 1

B. Objectives of the Study ------------------------------------------------ 4

C. Significance of the Study ---------------------------------------------- 5

D. Methodology ------------------------------------------------------------ 7

E. Scope and Limitations ------------------------------------------------- 9

F. Organization of the Thesis -------------------------------------------- 10

CHAPTER 2: PRIVATIZATION IN GENERAL ---------------------------- 12

A. Reasons and Main Objectives of Privatization --------------------- 15

B. Advantages and Disadvantages of Privatization ------------------- 19

C. Privatization in the Philippines --------------------------------------- 20

CHAPTER 3: THE PUBLIC UTILITY -------------------------------------- 29

A. The Undefined Public Utility ----------------------------------------- 29

B. Investing in a Public Utility ------------------------------------------- 30

C. The Role of the Private Sector ---------------------------------------- 32

D. Current Models for Public Utility Investing ------------------------ 36

E. Public Utility Regulation ---------------------------------------------- 43

 vi

CHAPTER 4: RELATIONSHIPS BETWEEN THE PUBLIC UTILITY

AND THE PRIVATE COMPANIES IN CONTRACTING OUT
THE PERFORMANCE OF PUBLIC SERVICE ----------------------------- 51
A. The Necessity of a Franchise,
Certificates of Public Convenience or
Certificates of Public Convenience and Necessity ----------- 51

1. Public utilities and public services delineated ---- 56

2. Franchise, certificate of public convenience,

& certificate of public necessity and convenience
defined --------------------------------------------------- 57

B. Instances When Franchise, Certificates of Public Convenience

or Certificates of Public Convenience and Necessity
Need Not Be Procured -------------------------------------------- 59

CHAPTER 5: FOREGOING THE REQUIREMENT OF A FRANCHISE

FOR THE PERFORMANCE OF PUBLIC SERVICE
BY A PRIVATE COMPANY IN THE OPERATIONS OF MWSS ---------- 68
A. Republic Act No. 6234, the MWSS Charter ------------------------ 70

B. The National Water Crisis Act of 1995 and

the Ramos Executive Orders ------------------------------------ 73

C. The Public Service Act ------------------------------------------------ 82

D. The Efficiency of Contractual Regulation -------------------------- 85

CHAPTER 6: THE MWSS CONCESSION AGREEMENTS

AND THEIR IMPLICATIONS TO THE CONCESSIONAIRES -------------- 89
A. The Participation of the Private Sector ------------------------------ 89

B. Concession Fact File --------------------------------------------------- 94

C. MWSS Concessionaires: Agents or Contractors? ------------------ 95

 vii

1. The Concessionaires as Contractors,

A Vague Description ------------------------------------------ 99

2. MWSS Concessionaires, Not Acting as Agents ------------ 101

D. The MWSS Concessionaires as Public Utilities ------------------- 108

1. A Public Utility: Without a Concrete Definition

under Philippine and American Jurisprudence ------------ 109

2. The MWSS Concessionaires: Public Utilities in Line

with the Criteria Set Under Philippine Jurisprudence ---- 112

3. MWSS Concessionaires: Public Utilities

as Intended by the Concession Agreements’ Drafters ---- 124

E. Implications of Being a Public Utility ------------------------------- 126

1. 12% Rate of Return -------------------------------------------- 126

2. Republic v. Manila Electric Company Ruling Applies ---- 133

3. Section 11, Article 12 of the 1987 Constitution ------------- 141

4. Jurisdiction of Commission on Audit ------------------------ 144

5. Section 17, Article 12 of the 1987 Constitution ------------- 145

6. Nationalization of Industries --------------------------------- 146

CHAPTER 7: CONCLUSION ----------------------------------------------- 148

CHAPTER 8: RECOMMENDATIONS -------------------------------------- 158

BIBLIOGRAPHY ------------------------------------------------------------- 165

APPENDIX 1 : THE CONCESSION AGREEMENTS ----------------------- 172

 viii

"Everyone understands that water is essential to life.

But many are only just now beginning to
grasp how essential it is to everything in life –
food, energy, transportation, nature, leisure, identity,
culture, social norms, and virtually all the
products used on a daily basis."

-- World Business Council for

Sustainable Development (WBCSD)

"Water, thou hast no taste, no color, no odor;

canst not be defined, art relished while ever mysterious.
Not necessary to life, but rather life itself,
thou fillest us with a gratification
that exceeds the delight of the senses."

-- Antoine de Saint-Exupery,
From Wind, Sand and Stars, 1939
 1

Chapter 1
Introduction

A specific model for privatization is in scrutiny in this paper. A case of contracting

with private companies where the concessionaire acts as a mere agent for the public

utility calls an extensive examination of its legal consequences.

In the Philippines, the only known privatization agreement of this kind is

the Concession Agreement between the Metropolitan Waterworks and Sewerage

System (“MWSS”) and its concessionaires. Manila Water Inc. (“Manila Water”) is

one of the two concession companies operating Manila’s privatized water and

sewerage system. The other is Maynilad Water Services Inc. (“Maynilad”).

Where a contract is imbued with public interest, as when it involves a

public utility, it is but mandatory that the contract be scrutinized by all legal means

so as not to circumvent the spirit behind each and every law that aims to protect the

people and promote public good. Such is the case as regards public services. As an

emphasis, it must be noted that public interest should not be abrogated. It is the

promotion of public good, and not the interest of the few that matters.

Background of the Study

On December 6, 1995, President Fidel Ramos signed Executive Order No. 286,

which ordered the reorganization of the MWSS to encourage private sector

participation in the privatization of MWSS operations and facilities. In 1996,

Executive Order No. 311 authorized MWSS to enter into arrangements that will
 2

result in the involvement of the private sector in any or all segments of MWSS'

operations. It was December of that year when the President finally approved the

privatization strategy. It ultimately led to the approval of the award of contract

Concession Agreements with Manila Water and Maynilad (collectively called the

“MWSS Concessionaires”)signed by Sec. Vigilar of the Department of Public

Works and Highways. On August 1, 1997, the concessionaires took over

operations.

The Concession Agreements provide:

WHEREAS, MWSS has determined to grant concessions to private sector

corporations, at least 60% of the outstanding capital stock of which is owned and
controlled by Philippine nationals, which shall act as contractors to perform
certain functions, and as agents for the exercise of certain rights and powers, of
MWSS under its Charter, operate the system of waterworks and sewerage services
referred to in the Charter.
…

Article 2.1. Grant of Concession. On the terms and subject to the conditions set
forth herein, MWSS hereby grants to the Concessionaire, as contractor to perform
certain functions and as agent for the exercise of rights and powers under the
Charter, the sole right to manage, operate, repair, decommission and refurbish the
Facilities in the Service Area, including the right to bill and collect water and
sewerage services supplied in the Service Area (the “Concession”). …
…
Article 7.2. Easements, Eminent Domain, Right of Way and Similar Powers.
MWSS hereby appoints the Concessionaire as its agent and representative, for
purposes of, among others, Section 3 (K) of the Charter in its name, place and
stead, to apply for and exercise its easement, eminent domain, right of way and
similar rights and powers given to MWSS under its Charter in connection with
infrastructure projects and works undertaken relating to the Concession by the
Concessionaire in the Service Area pursuant to this Agreement. The
Concessionaire shall be solely responsible for the payment of any compensation to
third parties occasioned by the exercise of such rights and powers.

Clearly, the Concession Agreements described the MWSS Concessionaires

as contractors and agents of MWSS.

 3

However, on June 29, 2006, a legal issue was raised regarding this type of

concession agreement when water advocates and some lawmakers, led by the

Freedom from Debt Coalition (“FDC”), filed a special civil action for certiorari and

prohibition with prayer for issuance of preliminary injunction and application for

temporary restraining order. The petition sought to invalidate the MWSS Board of

Trustees (“BOT”) Resolution No. 44-006-CA declaring the water concessionaires

as agents of MWSS, on the basis that, under the law, the two Metro Manila water

concessionaires are in fact public utilities and not mere contractors and agents of

the principal public utility, the MWSS.

According to FDC, the MWSS decision declaring the water concessionaires

are mere agents and contractors poses three negative effects on the public: 1

1. Ayala-owned Manila Water (servicing the East Zone portion) and

mismanaged Maynilad (West Zone concessionaire) are earning more than

they should have been allowed under the 12 percent limitation on profit

margin of public utilities. This cap on rate of return is stated under Section

12 of the MWSS Charter. The impact of this can be easily seen in Manila

Water that would walk away with P281 million. This is the monetary

equivalent of the 28.92% rate on return base (RORB) it incurred in excess

of the allowable 12% for public utilities for the year 1999 alone.

2. The concessionaries are being allowed to pass on their corporate income

1
“FDC to Ask SC Invalidate MWSS Board Resolution,” Freedom from Debt Coalition Press
Statement, June 27, 2006.
 4

taxes to their consumers. This means that Manila Water and Maynilad add

P1.55 and P4.15, respectively, per cubic meter of water to unwitting

costumers. Had the MWSS Board of Trustees (“MWSS BOT”) and

Regulatory Office (“RO”) stood by what the law prescribed, water rates in

Metro Manila should have been reduced.

3. Lastly, having been stripped of their public utility character, the two water

utilities may invoke this in refusing to extend any service to anyone within

their coverage area.

Objectives of the Study

This study aims to address the issues posed by the FDC regarding investments

through principal-agent contracted out operations in the public utility sector,

specifically on the issues raised pertaining to the concession agreements of MWSS

with its concessionaires Manila Water and Maynilad.

The study aims to answer the following questions:

1. When the provision of water services, a public utility, was privatized by the

government, is it legal for the government thru the MWSS to award it to a

private entity through a regular contractual arrangement instead of the usual

award of franchise?

2. Whether or not, when the government contracts-out the operation of MWSS

 5

through a concession agreement, the concessionaires are considered as the

public utilities themselves or mere agents of the principal public utility,

MWSS. Consequently, is a concession agreement compatible with the law

on agency?

3. What are the legal consequences when the concessionaires are considered as

public utilities themselves?

Significance of the Study

Every business is affected with a public interest to some extent and consequently is

subject to a measure of public regulation. Certain types of enterprises, however, are

so peculiarly affected with a public interest that they have been subjected to far-

reaching regulation by the government. These enterprises are commonly called

“public utilities.”2

There is a need to address the issues on economic reform vis-à-vis the need

to provide quality public services to the people. The issue is compounded with the

necessity to address the profitability of public services for people who intend to

invest in the public utility sector. Obviously, there can be no privatization without

the participation of the private sector. Given the pressure from the International

2
HERMAN HENRY TRACHSEL, PUBLIC UTILITY REGULATION 3 (1947).
 6

Monetary Fund and other international credit organizations, it is important to sugar-

coat the public service business in order to attract investors from the private sector.

The determination of the issues regarding the MWSS and its

concessionaires Manila Water and Maynilad pertaining to principal-agent

contracting agreements would entail an analysis of the legal aspects involved and

the possible legal implications upon the determination of their validity. In a country

where its own government has been a chronic nullifier of its own contracts, a

pronouncement regarding the illegality of the concession agreements might spell an

economic disaster.

On the other hand, the law must reign supreme amidst the clamor to bend

rationality for the sake of saving the economy. The public good must still prevail.

The main issue is the applicability of the law. However, as an afterthought, there

also need not be a bending of the law to accommodate the economy where there is

really nothing illegal in the first place.

The results of an examination of the MWSS Concession Agreements shall

serve as guidelines for similar future government contracts, as the government

continues its policy of devolving its functions. The determination of whether or not

the MWSS Concessionaires are required to procure a franchise in order to perform

the functions of MWSS will clarify the requirements in getting into the business of

public utilities. Moreover, the issues need to be clarified in order to conduct a

conducive economic atmosphere for prospective investors in the water utility

 7

sector. Upon the determination of the issues posed, an investor would be well-

informed about the possible legal consequences one might encounter. Whether the

resolution of the issues posed be in the affirmative or in the negative, this is all but

a win-win situation where the government clarifies the legal implications of the

business and the investors being equipped with the right information in order to

weigh the pros and cons of the investment, allowing a more plausible and sound

business judgment. This approach is more in line with the long term plans of the

government considering that each concession would last 25 years. It would be

shameful if in the middle of the duration of the concession, a Supreme Court

decision would reverse what has been agreed upon in a concession agreement by

reason of the agreement’s illegality.

The classification of the MWSS Concessionaires as public utilities would

entail more responsibility in the performance of their obligations in addition to the

Concession Agreements. This is plain exercise by the State of its police power with

the view of regulating businesses involving public interest and public services.

Methodology

The author, in endeavoring to address the issues posed in the objectives of the

study, has conducted research in the library by using the Supreme Court Report

Annotated, the Philippine Reports, and other books available on the topic of public

utilities and privatization.

 8

Internet research was also conducted with the use of the Ateneo de Manila

University Professional Schools’ Wi-Fi connection in its library by browsing,

through search engines, websites on the following topics: privatization in the

Philippines, the MWSS privatization, public utilities, public utility regulation,

among others. Also, the website of the Supreme Court of the Philippines has been

fully utilized in researching appropriate cases on public utilities and privatization.

The website of the Metropolitan Waterworks and Sewerage System (“MWSS”) has

proved to be very helpful. The website of the Freedom from Debt Coalition was

very useful in pointing the issues raised against the MWSS Concession

Agreements. Among the other websites visited were those of the World Bank, the

Energy Regulatory Commission, and the Asian Development Bank.

Interview with personalities from the MWSS, MWSS Regulatory Office,

and the MWSS Board of Trustees also proved to be very helpful in giving light to

the answers that will address the issues in this study. Interviews with Certified

Public Accountants were conducted in order to enlighten the author about the

technicalities involved in the rate determination portion of the Concession

Agreements. Professors from the Ateneo Law School were also interviewed in

order to get their opinions about the issues posed in this study. The author also tried

to interview some personalities from the Office of the Government Corporate

Counsel (“OGCC”). Unfortunately, due to time constraint and unexpected

 9

circumstances,3 the author was unable to conduct interview with anyone from the

OGCC.

Scope and Limitations

The study focuses on the legality of principal-agent contracted out operations in the

water public utility sector, particularly the Concession Agreements between MWSS

and its concessionaires Manila Water and Maynilad, as this is the only contract of

such character in the Philippine public utility sector. The study does not question

the propriety of privatization as a national policy. It also specifically focuses on the

MWSS Concession Agreements and does not cover other forms of agreement with

other local water districts in the Philippines. It does not aim to cover other forms of

contractual regulation or privatization of other public utilities.

Principally, the study delves on the legality of contractual regulation in the

water public utility sector in considering MWSS concessionaires as mere agents of

MWSS, which is said to be the principal public utility, and the performance of

MWSS operations without the grant of a legislative franchise. Thus, the study is

limited on the issues posed in the objectives of this study. The consequences

pertained in objective number three (3) shall be limited to the application of the

12% cap on the rate of return, the application of the Republic v. Manila Electric

Company ruling to the MWSS Concessionaires, foreign equity limit in public

3
It was the OGCC’s outing when the author went to its office.
 10

utilities, the jurisdiction of the Commission on Audit over the concessionaires,

temporary take over of public utilities during a national emergency, and

nationalization of industries.

Organization of the Thesis

The author shall first present a general discussion on privatization in the

Philippines, including important dates and milestones.

The next chapter shall dwell on defining a public utility, which up to this

day has no concrete legal meaning. A backgrounder on investing and regulating a

public utility shall follow.

The following chapter aims to bridge general public utility privatization

with investments specific to operations of public utilities. It discusses the

relationship between private companies and public companies when the latter

contracts out its functions to the former, in providing service to the general public.

It enumerates instances when a franchise need not be procured in the operation of a

public utility.

Chapter 5 becomes specific with water utility regulation. It discusses the

inefficiency of the requirement of procuring a franchise as a pre-requisite for the

operation of a public utility. It also dwells on a discussion about the legality of non-

procurement of a franchise.

Finally, Chapter 6 shall delve on the analysis of the MWSS model for
 11

privatization and the issues questioning its legality. The author aims to give an

impartial discussion on the public utility nature of the MWSS Concessionaires’

operations and its legal implications.

 12

Chapter 2
Privatization in General

The Philippines occupies a strategic geographical location, acting as a potential

gateway for investors to the Asian market. It is also a favorable base for Asia-

Pacific expansion programs. The large workforce is skilled and well educated.

Natural resources are abundant. Moreover, the Philippine government has

established a liberal program of fiscal and non-fiscal incentives aimed at attracting

foreign capital and technology to supplement local resources. Its affiliation with the

Association of Southeast Asian Nations (“ASEAN”) affords it preferential access

into the large ASEAN Free Trade Area (“AFTA”), which constitutes a large

potential consumer market for a host of manufactured products. It is also a member

of Asia-Pacific Economic Cooperation (APEC), whose member countries account

for more than 40 percent of world trade. It has a ready supply of highly skilled and

trainable labor, including professional, technical, managerial, and skilled workers.

Workers typically are fluent in English.4

From the foregoing, it can be gleaned that the Philippines has the potential

to be a hotspot for both regional and global investors. Presently, the Philippines

sustains fiscal adequacy and economic growth through economic reforms, bilateral

agreements with other nations, and overall structural adjustment reforms. One of

the structural adjustment reforms, of which the International Monetary Fund

4
Doing Business in the Philippines, Makati City: Pricepowerhousecoopers, 2002.
 13

usually pressures governments to enter into, is the privatization of state-owned

enterprises (“SOEs”) by seeking private investment in state-owned manufacturing

and public service enterprises.

The privatization of SOEs has become an important instrument for

improving economic performance in industrialized countries, as well as

implementing transition policies in both developing nations and former socialist

countries. Privatization became more attractive with increasing evidence that many

SOEs are loss-makers rather than revenue generators. Studies by the Work Bank

indicate that by the beginning of the 1980s, SOEs in developing countries

accounted to one-quarter to one-half of all outstanding domestic debt and for a

substantial portion of foreign borrowing. In addition to that, the ability of

government agencies and state enterprises to provide adequate water, housing,

utilities and transportation, and to dispose of waste, has been quite limited in most

developing countries.5 The Philippines is not an exception.

In nearly all developing countries, central or local governments are

contracting with private organizations to help provide services that public agencies

cannot offer efficiently or effectively.6 Deregulation and opening-up is in full swing

firstly for fiscal deficit and secondly for free-market economy reasons.7

5
JOSEPH PROKOPENKO, MANAGEMENT FOR PRIVATIZATION: LESSONS FROM
INDUSTRY & PUBLIC SERVICE 3 (1995).
6
Id., at 18.
7
MATSUSHIRO KAGAMI, PRIVATIZATION, DEREGULATION, & INSTITUTIONAL
FRAMEWORK 1 (1999).
 14

Consequently, privatization has become a priority of the government in

addressing the need for the elimination of non-performing assets and in providing

better services to the people. Several modes of privatization may be entered by the

Government such as property restitution and reprivatization, auctioning of small

companies, “mass privatization” and the divestment of large state-operated

enterprises, marketization or demonopolization, public-private partnerships,

transferring services to private or non-governmental organizations, and contracting

with private companies. Aptly stated, in applying the principle of freedom to

contract, there can be an infinite enumeration of modes of privatization depending

on the peculiar circumstances that the parties may consider in each case.

The World Bank surveys the nationwide trend towards privatization which

has been observed since the late 1970s. They highlight the huge scale of the

transfer of assets involved and the enormous potential for such liberalization in

developing countries with high initial percentages of productive assets owned by

the state. Their survey of developing countries identifies three aspects of a

successful privatization program: 8

o First, the program must be politically desirable in the sense that the political

leadership must see benefits for itself and its own constituents.

o Second, the program must be politically feasible in terms of the leadership

8
MICHAEL POLLITT, A Survey of the Liberalization of Public Enterprises in the UK since 1979,
in MATSUSHIRO KAGAMI, PRIVATIZATION, DEREGULATION, & INSTITUTIONAL
FRAMEWORK 129 (1999).
 15

having power to enact reform and overcome opposition.

o Third, there must be political credibility such that losers will be compensated

and investors’ property right safeguarded.

Since 1990s, privatization has achieved prominence in Asia. Asian

countries have embraced market-oriented reforms in a gradual process.

Privatization as a reform process was taken as an alternative to the inadequacy of

the national state in providing needed services for modernizing sectors of the

economy and meeting technological changes. The development of new

technologies has promoted reforms in terms of reducing entry costs, creating new

services, and innovation.9

Reasons and Main Objectives of Privatization

The primary objectives in privatizing State-owned enterprises (SOEs) depend on

the peculiar needs of the government. Some countries would privatize some SOEs

in order to satisfy the International Monetary Fund (IMF), the World Bank and

regional development banks in their effort towards the attainment of their overall

structural adjustment reforms.

On the other hand, there are also domestic challenges that would push

governments in privatizing their SOEs. The government would consider the

9
Emelyn C. Cabanda, Privatization Reforms in the Philippines: Evidence from Utility and Airline
Sectors, available online URL http://www.aasianst.org/absts/2005abst/Southeast/se-179.htm
(Accessed 30 May 2007).
 16

following objectives: adjusting to rapidly changing market forces, creation of jobs,

raising income levels and increasing productivity and efficiency in order to

compete in the global economy.10

Among the primary reasons governments pursue privatization are the

following:11

1. In former centrally planned socialist economies, privatization of state-owned

enterprises is a necessary but not sufficient condition for transforming the

economy to a market-oriented system.

2. In both advanced and developing countries, there has been growing public

dissatisfaction with SOEs, in respect of the quality and price of goods

(especially commercial goods and services, and manufactured products) and

their inability to distribute them efficiently.

3. In most developing countries, and especially in those economies which have

grown rapidly over the past two decades, increased participation of the private

sector is essential to meet growing demands for services produced by SOEs.

The ability of government agencies and state enterprises to provide adequate

water, housing, utilities and transportation, and to dispose of waste, has been

quite limited in most developing countries.

4. Throughout the world it has become evident that many state enterprises have

10
PROKOPENKO, supra note 5, at 5.
11
Id.
 17

not only been inefficient and unproductive, but have been “loss-makers”,

draining the state treasury of scarce financial resources by incurring deficits and

requiring subsidies.

5. A long period of worldwide recession during the late 1980s and early 1990s has

left many governments in developed countries with severe financial constraints

that make it difficult to continue subsidizing unprofitable SOEs or to bear the

burden of expanding services and infrastructure alone. The same situation has

arisen in many less developed countries because of declining international

assistance.

Privatization became more attractive, with increasing evidence that many

state-owned enterprises are loss-makers rather than revenue generators. Studies by

the World Bank indicate that by the beginning of the 1980s, SOEs in developing

countries accounted for one-quarter to one-half of all outstanding domestic debt

and for a substantial portion of foreign borrowing.12

SOEs in many developing countries encountered many serious problems,

which privatization sought to solve or lessen, including:13

o Mismanagement, corruption, patronage and padded payrolls that raised the

costs of providing goods and services;

o Inefficient operations, maintenance and service delivery arising in part from

12
Mary M. Shirley, Managing state-owned enterprises, World Bank Staff Working Papers No. 577
(1983).
13
RAYMOND VERNON, Introduction: The Promise and the Challenge, in THE PROMISE OF
PRIVATIZATION 1-22 (1988).
 18

weak competition or from monopoly positions;

o Involvement in highly capital-intensive operations or investments with long

payback periods;

o Constraints on pricing policies by governments wishing to provide subsidized

or cheap services for political reasons, preventing the SOEs from recovering

their full operating and investment costs;

o Overly restrictive government controls on the budgets and finances of SOEs;

o Failure of central governments to provide promised subsidies or deliver

budgetary resources in a timely manner; and

o Government requirements that SOEs take over failed privately owned

businesses or provide inherently unprofitable goods and services.

Inefficiencies in SOEs arose not only from the lack of competition but also

from the absence of checks and balances inherent in private ownership: the

pressures that shareholders and external directors exert on managers to improve

efficiency, the pressures that capital markets exert on companies to allocate scarce

resources economically and to operate within “hard budget” constraints, and the

pressures that managers who are responsible to shareholders and directors exert on

workers to improve productivity.14

14
PROKOPENKO, supra note 5, at 7.
 19

Advantages and Disadvantages of Privatization

Less intervention from state or government in market mechanism has become the

main economic philosophy and has been pursued in the different corners of the

contemporary world. However, as with any other mechanism, privatization does

not proceed without criticisms.

Advantages

It is usually said that privatization of SOEs and deregulation of economic

activities bring about:15

o Free entry and competition;

o Cost and price reduction;

o Improved services;

o Increased efficiency and efficient resource allocation; and

o Temporary asset sales income to the government (which helps reducing fiscal

deficits).

Disadvantages

On the other hand, demerits of privatization and deregulation include:16

o Unemployment and reduced labor union power;

o Reduced service to remote areas (i.e., universal services);

15
KAGAMI, supra note 7, at 2.
16
Id.
 20

o Declined supply stability and reliability;

o Foreign capital dominance (the so-called “Wimbledon effect”);

o Bad debt problems;

o Survival of the fittest;

o Disorder or crises in certain sectors.

Privatization in the Philippines

President Marcos introduced privatization as a government policy in the

Philippines under Presidential Decree No. 202917, but it was only under the Aquino

government that a clear policy towards privatization was implemented through

Proclamation No. 5018 in December 8, 1986. Furthermore, the 1987 Philippine

Constitution specifically provides that the State recognizes the indispensable role of

the private sector, encourages private enterprise, and provides incentives to needed

investments.19

Presidential Decree No. 2029 provides that “It is recognized that private

enterprise shall play the primary role in undertaking desirable economic activities,

17
Presidential Decree No. 2029, entitled “Defining Government-Owned or Controlled Corporations
(GOCCs) And Identifying Their Role in National Development,” gave the statutory definition of
GOCCs and the privileges and exceptions afforded to such corporations in line with the
government’s privatization policies. It was signed into law and effective on 04 February 1986.
18
Proclaiming and Launching a Program for the Expeditious Disposition and Privatization of
Certain Government Corporations and/or the Assets Thereof, and Creating a Committee on
Privatization and the Asset Privatization Trust, Proclamation No. 50 (1986).
19
PHIL. CONST. art II, §20.
 21

especially in the production and distribution of goods and services. It is therefore

also the policy of the State to encourage the participation of and to avoid

competition with private enterprise in economic activities. For this purpose, the

areas of operation appropriate for the government corporate form shall be defined.”

Under Proclamation No. 50, it was provided, as a state policy, that the State shall

promote privatization through orderly, coordinated and efficient program for the

prompt disposition of the large number of non-performing assets of the government

financial institutions, and certain government-owned and controlled corporations

(“GOCCs”) which have been found unnecessary or inappropriate for the

government sector to maintain. It served as basis for the creation of a Committee

on Privatization and the Asset Privatization Trust.

A review of landmark legislations and definitive policies of the past four

presidents of the Philippines reflect a primarily economically motivated

privatization policy. Thus, the Build-Operate-Transfer (“BOT”) Law was enacted

to legitimize the entry of private business in vital government development

undertakings and operations. Meanwhile, President Ramos intensified privatization

during his term. In a Letter of Intent (“LOI”) to the IMF-World Bank, he

committed further reduction in government subsidy and the entry of multinationals

in more public utilities, social services, and development projects.20

The solution to the severe power shortages arose largely out of the

20
ShyAnne T. Juan, Analyzing the Philippine Privatization Policy & its Implication on Human
Rights Violations, Juris Doctor, Ateneo de Manila University (2006).
 22

Government’s effort to mobilize private sector investment into power generation,

starting with “fast-track” projects. Executive Order No. 215, promulgated in 1987,

laid the basis for the entry of the private sector into power generation, which had

been a monopoly of the National Power Corporation (“NPC”), while Republic Act

No. 6957 authorized the financing, construction, operation, and maintenance of

infrastructure projects by the private sector.21

The Declaration of Policy under Republic Act No. 6957,22 enacted in July 9,

1990, provides that, “It is the declared policy of the State to recognize the

indispensable role of the private sector as the main engine for national growth and

development and provide the most appropriate favorable incentives to mobilize

private resources for the purpose.” The law provided for two modes of private

sector participation in infrastructure development projects of the State, namely, the

“build-operate-and-transfer scheme” and the “build-and-transfer scheme”.

According to the law, “All government infrastructure agencies, including

government-owned and controlled corporations and local government units, are

hereby authorized to enter into contract with any duly prequalified private

contractor for the financing, construction, operation and maintenance of any

financially viable infrastructure facilities through the build-operate-and-transfer or

build-and-transfer scheme, subject to the terms and conditions hereinafter set

21
Benjamin S. Austria, Development of the Energy Industry in the Philippines, available online
URL www.adb.org/Documents/Conference/CAREC/Energy/chap11.pdf (Accessed May 30, 2007).
22
Republic Act No. 6957 entitled, “An Act Authorizing the Financing, Construction, Operation, and
Maintenance of Infrastructure Projects By the Private Sector, and For the Other Purposes.”
 23

forth.”

The foregoing law was amended by Republic Act No. 7718 in May 5, 1994.

It provided for schemes in addition to the “build-operate-and-transfer scheme” and

the “build-and-transfer scheme” provided in Republic Act No. 6957, such as Build-

own-and-operate, Build-lease-and-transfer, Build-transfer-and-operate, Contract-

add-and-operate, Develop-operate-and-transfer, Rehabilitate-operate-and-transfer,

and Rehabilitate-own-and-operate.

Through the BOT approach, the Government was not only able to mobilize

foreign and domestic financing sources to augment official development assistance,

but also was able to achieve simultaneous implementation of a larger number of

projects over a shorter period of time. Hard currency financing included export

credit agencies, commercial bank debt, and equity from sponsors and investors.

Domestic capital was mobilized through the stock market. Domestic credit was

available as dollar debt from local banks, peso debt from insurance companies

and/or commercial paper market, and peso financing from local banks for peso

working capital needs.23

In 1995, the government decided to privatize the telecommunications

industry and created Republic Act No. 7925, otherwise known as the Public

Telecommunications Policy Act of 1995 in the hopes of creating a more level

playing ground for all companies. The Act was defined as the new legal, policy,

23
Austria, supra note 21.
 24

and regulatory framework in the promotion and governance of Philippine

telecommunications development. The country was divided up into eleven regions,

opening up the market to various competing telecommunication companies.24 The

Act covers all telecommunications entities, protects users' rights, increases the roll-

out period from five to three years, enforces the deregulation of value-added

services and the complete privatization of all government telecommunications

facilities by 1998.25

Privatization has taken place in three waves:26

o First was the disposition of non-performing assets owned by the government.

Included in the first wave of privatization were the surrendered and sequestered

assets from the friends and relatives of deposed president Ferdinand Marcos.

Government ended up funding all these operations at a loss. With the country at

that time experiencing an economic crisis – double digit inflation, a deficit in

the balance of payments, gross international reserves below $1 billion – the

Government, in its dire need of cash, decided to cut its losses and resell these

companies.

o The Second wave included the privatization of the power sector and the

expansion of the BOT law in other areas of infrastructure, such as roads,

24
MCI WorldCom, Quantum DDB Philippines Inc. Brand Review, April 15, 1999.
25
IT Action Agenda for the 21st Century, The Dynamics of the Information Technology Industry in
the Philippines, National Information Technology Council, October 1997, available online URL
http://www.neda.gov.ph/IT21/IT21Final%20Text%20(Web).htm (Accessed December 9, 1999).
26
Lauro Ortile, Privatization in the Philippines, available online URL
www.adb.org/Documents/Conference/CAREC/Energy/chap15.pdf (Accessed May 30, 2007).
 25

airports, seaports, water, and even information technology.

o The Third wave is what the country is experiencing at present – housing, health,

postal services, and pension funds. These are very delicate areas, so now the

Government is undertaking studies on how best to implement these social

services.

In 2003, there were 55 Government-Owned and Controlled Corporations

(GOCCs) that were fully privatized, 29 partially privatized, and 25 are in the

process for dissolution. There were still 29 remaining GOCCs.27

On the basis of the Medium Term Philippine Development Plan for 2001-

2004 of the Macapagal-Arroyo government, consistent with its continuing

commitment to deregulation and privatization, the participation of the private sector

in financing, construction, and operation of major infrastructure in transportation,

power, and water is encouraged through partial or total cost recovery from user

charges. The government provided a regulatory framework that enhances

competition and at the same time ensures public welfare, safety, and environmental

quality. The government focused on policymaking and regulation, leaving

operations and management mainly to the private sector. In line with this, the

government concentrated on defining priorities, identifying and preparing core

infrastructure projects, creating and enhancing the framework for private sector

participation, economic and technical regulation, and reengineering the government

27
Cabanda, supra note 9.
 26

bureaucracy to perform in the market-led environment. The supervisory capabilities

of concerned government agencies were strengthened to protect the interest of

society and ensure transparency and integrity in project-related transactions.

The Arroyo administration relies on private enterprise and markets guided

by the price system in the push for equitable growth. Private enterprise nurtures

competition, innovation, and entrepreneurship in developing globally competitive

enterprises. Hence, the administration continues to liberalize trade and investments

to reduce the cost of doing business and permit even microenterprises and SMEs to

access least-cost capital equipment, raw materials, and components available in

world markets. Other bottlenecks to investments are being removed. High electric

power rates are taken care of by the privatization of power generation under the

Electric Industry Reform Act of 2001 which, after nine years, was finally enacted

into law under the Macapagal-Arroyo administration. The government, at both the

national and local levels, pursues seamless, investor-friendly actions.

In addition to that, the Arroyo government is working towards the

privatization of the National Power Corporation (Napocor), Philippine National Oil

Company-Energy Development Corporation (PNOC-EDC) and Philippine National

Construction Corporation (PNCC). The restructuring of some GOCCs like the

National Food Authority (NFA) is also being pursued. Private sector participation

is being sought in the rail transportation sector while privatization in the water

sector is also being further pursued. Financing policies in the water and in rural
 27

electrification is being reformed to improve the performance of the consolidated

public sector.

Furthermore, the Medium-Term Development Plan provides that the

privatization and participation of more players in the operation of government ports

will improve the turnaround time of shipment and cargoes while rationalized rates

will reflect the cost of providing the service. Executive Order No. 59 is being

thoroughly reviewed and a new executive issuance will be formulated in

consultation with the private sector to liberalize port management policies and

significantly improve efficiency in the transport of goods, cargoes, and passengers.

Foreign air carriers are also being encouraged to operate in the Philippines under

bilateral agreements and in accordance with existing laws to ensure that adequate

and affordable international air services are provided. A comprehensive strategy for

the privatization and restructuring of the rail transportation sector is being

formulated.

The government is restructuring port institutions to improve port services.

Regulatory functions are being transferred to an independent regulator (or

regulators), which shall have jurisdiction over all ports. Commercial decision-

making, planning, and management of port operations are progressively

decentralized to Port District Offices and Port Management Offices in preparation

for the privatization of individual ports or groups of ports. The government pursues

the amendment of the PPA charter to address, among other things, the dual role of
 28

PPA as regulator and operator.

 29

Chapter 3
The Public Utility

Most of the SOEs being privatized are in the nature of public utilities such as those

that provide water, electricity, and telecommunication services. In this chapter, in

addition to defining the nature of a public utility, the author discusses the role of

the private sector in the privatization of public utilities vis-à-vis the importance of

regulating the business of public utilities.

The Undefined Public Utility

There is no set of formula that can be used to distinguish a public utility from other

business undertakings. No definition has been formulated that will include all the

businesses which have been classed as public utilities and at the same time exclude

all of those that are not generally considered as such.28 The courts have recognized

a broad distinction between what are considered as private business and business

that is “affected with a public interest.” There has been, however, considerable

difference of opinion in respective jurisdictions as to just what the essential

characteristics of a business are that bring it within the scope of businesses affected

with a public interest.29

A corporation becomes a public service corporation, and therefore subject

28
TRACHSEL, supra note 2, at 3.
29
Id. at 4.
 30

to regulation as a public utility, only when and to the extent that the business of

such corporation becomes devoted to a public use.30 The business and operations of

a public utility are imbued with public interest. In a very real sense, a public utility

is engaged in public service – providing basic commodities and services

indispensable to the interest of the general public. For this reason, a public utility

submits to the regulation of government authorities and surrenders certain business

prerogatives, including the amount of rates that may be charged by it.

The characteristics of a public utility as provided under Philippine

jurisprudence is discussed in Chapter 6 as the author explains why the MWSS

Concessionaires must be considered as public utilities themselves and therefore

must be subject to laws and regulations governing public utilities.

Investing in a Public Utility

Privatization is widely thought to be a valuable policy instrument that leads to a

greater good. Privatization of public resources injects new value into public assets

and increases the privately-held capital base of a country. Governments that

implement privatization as part of their reforms use it as a mechanism to pursue a

variety of objectives, both macroeconomic and fiscal.31 In inviting private

investment and/or management for water supply and wastewater treatment, there is

30
North Negros Sugar Co. v. Serafin Hidalgo, 63 Phil. 664, 688 (1936).
31
Wood, Randall S., The Privatization of Public Utilities: What are the Gains? Why the Popular
Opposition? (2004).
 31

a need of attractive contracts for the private sector. These attractive contracts

should be comparable with the other opportunities available for the private sector.32

On the part of investors, investing in public utilities is a risky venture. The

risks for the private sector are multifold, as the recovery of tariffs is sometimes a

political issue and there may not be enough judicial help to recover the charges or

to terminate the services to the communities.33 Not only are they exposed to public

and labor protest, but more importantly, they are bound by a contract (whether a

concession, franchise, or other form of contract) and the law, that straps on their

shoulders the big responsibility of providing adequate and quality public service to

the general public.

Nonetheless, it also cannot be denied that risk is the middle name of

business. Behind the risks lies the opportunity to gain big profits, considering the

big number of clientele that have no choice but to avail their services. Since public

utilities are usually monopolies, such as the provision of water, sewerage services,

electricity, railways, and public transportation, the promise of big profit is

inevitable. In addition to that, because of privatization efforts of governments

brought about by fiscal inadequacy and pressure from different international credit

organizations, invitations for managing, operating, and purchasing public utilities

will always be around the corner. Such offers, with the promise of an enormous

32
Mushtaq Ahmed Memon, Public-Private Partnerships for Urban Water Supply and Wastewater
Treatment: An overview of the concept of PPP and its applications for urban water, available
online URL www.iges.or.jp/kitakyushu/mtgs/seminars/theme/ppp/4.%20Analysis.pdf (Accessed
May 30, 2007).
33
Id.
 32

number of clientele and guaranteed return of investments, are simply too good to

ignore, business-wise.

The Role of the Private Sector

In nearly all developing countries, central or local governments are contracting with

private organizations to help provide services that public agencies cannot offer

efficiently or effectively.34

Significant private sector participation will require a change in the role and

functions of the public sector, from the sole provider and operator to a partner, or to

a regulator, depending on the circumstances.35

In the absence of competition and use of market-based instruments, there

are insufficient incentives to ensure that public investments meet the test of

economic efficiency for the provision of services. Evidence from other countries

suggests that through the introduction of appropriate policies and market

mechanisms, the private sector can play an effective role in meeting financing

needs and ensuring quality in terms of both investment and operations of urban

infrastructure.36

In public-private partnerships (“PPPs”), the public and private sectors join

34
PROKOPENKO, supra note 5, at 6.
35
Bruce Murray, Opening Remarks, during the Forum on Private Sector Participation in Public
Utilities, Beijing 2002.
36
Id.
 33

forces to design, finance, build, manage or maintain infrastructure projects. Such

partnerships can take many forms, depending upon the exact allocation of risks and

responsibilities. Given that the host authorities are willing to accept private

investment – in practice often foreign direct investment – in their utilities sector,

the hoped-for benefits can in principle be achieved regardless of the entry mode of

the private operator.37

In telecommunications, technological innovations – in particular the advent

of cellular networks – have allowed for new entrants thus dramatically

transforming the competitive structure in national markets. Traditional public

telephone companies have been privatized in Latin America and parts of Europe

and Central Asia but much less in other regions. Overall, divestitures of

government assets have in the past been slightly more important than greenfield

projects, and much of the recent decline in investment can be explained by the

completion of privatization programs in Latin America. Investment in expansion

within this sector has held up better, averaging US$ 19 billion in each of the past

five years. The Grameen Phone company in Bangladesh is an example of a PPP

which offers mobile phone services and has sidestepped many of the constraints

imposed by existing transmission networks.38

The energy sector has seen the largest number of projects over the period

since 1990, and the second-highest amounts of investment. Electricity figured

37
STEPHEN THOMSEN, ENCOURAGING PUBLIC-PRIVATE PARTNERSHIPS IN THE
UTILITIES SECTOR: THE ROLE OF DEVELOPMENT ASSISTANCE 6 (2005).
38
Id. at 9.
 34

prominently. Once again, Latin American countries have been more prone to

privatize state assets while Asian countries have mostly invited greenfield ventures

in the form of independent power producers (IPPs) to satisfy their growing energy

demands. In electricity, 70 per cent of all investment has gone into generation

alone, with another 13 per cent going into integrated utilities or some combination

of generation and transmission or distribution. Private participation in

transmission and distribution has come about almost exclusively through

privatization.39

The transport sector represents only 16 per cent of total investment but 27

per cent of projects. One half of this investment has gone into toll roads, with the

rest in railways, seaports and airports. Unlike in telecommunications and energy,

concessions are by far the most important form of PPP in this sector, owing partly

to the political sensitivity of transferring public assets to the private sector. In the

1990s, three quarters of toll road concessions involved expansion or rehabilitation

of existing roads rather than the construction of new networks. Divestitures have

been rare and have mostly occurred in China where minority stakes were sold in

several state-owned toll road companies in order to finance future road

construction.

In the water and sewerage sector, the relative scarcity of projects stems

from both host government reticence and a lack of investor interest. Fears of a

39
Id. at 10.
 35

political backlash against private ownership and the relatively greater role played

by sub-national governments have dampened enthusiasm for PPPs. The top eight

projects account for one half of all investment and the top two (Aguas Argentinas

and Manila Water and Wastewater) represented almost one third of total

investment. As in the transport sector, concessions are the most popular form of

PPP, accounting for over two thirds of total investment.40

Nevertheless, there have been some failures in PPPs. The reasons that PPPs

have sometimes performed below expectations vary from case to case. However,

one commonly heard complaint from host governments is that investors have

reneged on their contractual obligations, especially regarding the coverage of

services. One commonly heard complaint from enterprises is that public authorities

have failed to provide an environment in which they can provide their services

according to sound commercial principles. The latter problem often manifests itself

as a lack of willingness by public authorities to accept the social and political cost

of private operators’ measures to boost productivity and set tariffs at market levels.

Also, PPP contracts have often been poorly written, weakly enforced (often against

the background of generally weak legal frameworks in the host country) and

awarded and implemented in an un-transparent, or even corrupt, manner. In

consequence, private investors have often had to shoulder not only the commercial

risk of utilities projects, but for example also political risks (e.g. resistance from the

public and incumbent operators) that would most commonly have been borne by
40
Id. at 11.
 36

host country authorities.41

Current Models for Public Utility Investing

Auctioning of small companies42

Auctions are being used to dispose of thousands of small businesses in Central and

Eastern Europe and to offer shares in medium-sized and large SOEs in the Russian

Federation and in Latin American countries. Reformers argue that the auction

process has many advantages. First, it is a familiar, simple, open, and transparent

method for shifting resources from sellers to buyers. Second, it avoids the complex

problems of valuation because the auction determines the price buyers are willing

to pay. Third, the auction ensures that property is sold to those who value it most

and who have financial resources to develop and use it effectively. Fourth, the

auction allows buyers to determine the most efficient private use of the property.

Fifth, it allows market prices rather than political privilege to guide the allocation

of state assets.

“Mass privatization” and the divestment of large SOEs43

A step beyond concessions is the full privatization of utilities' assets, which brings

41
Id. at 32.
42
PROKOPENKO, supra note 5, at 13.
43
Id. at 14.
 37

with it both the benefits provided by the assumption of full commercial risk and the

discipline exerted by capital markets. The $5 billion public share offering of 10

regional water authorities in England and Wales in 1989 is the most prominent

example of this approach. The British government's decision to sell these assets

was influenced by a number of factors, including the $40 billion investment

program the water authorities needed to undertake to meet the European Union's

environmental standards; the confidence in the new independent regulatory

structure, and the existence of highly developed local capital markets. While

successful in many respects, the privatization in England and Wales has been

criticized for leading to rapid and substantial increases in tariffs and an absence of

metering. More gradual privatizations are going on elsewhere--in Thailand, the

East Water Company is expected to be listed on the Bangkok stock exchange

during 1997.44

In many countries, the government simply sells all or part of its ownership

in state enterprises to private investors. The methods used to divest governments of

state enterprises include: direct sale and stock offerings; management or employee

buy-outs; and free or low-cost distribution of shares. Most governments use a

combination of these alternatives:

o Direct sale and stock offerings – The government of Argentina, for example,

has sold power plants that account for more than half of the country’s thermal

44
David Haarmeyer & Ashoka Mody, Private Capital in Water and Sanitation, available online
URL http://www.worldbank.org/fandd/english/0397/articles/0100397.htm (Accessed 01 June 2007).
 38

electric capacity to consortia of foreign and domestic private investors. In

Singapore, the Government privatized Telecom IPO, electric and gas utilities

and other public service enterprises by selling stock at a discount to

Singaporeans who were required to hold shares for a specified period. The

objective was to increase the shareholding position of adult citizens from about

14 to 30 per cent and to give them a sense of ownership and interest in the

efficient management of privatized companies.

o Liquidation – Using this approach, the state sells physical assets belonging to

SOEs that are themselves unsaleable and beyond restructuring. Governments or

SOEs usually turn to this method when a state company cannot be sold in its

entirety or when some assets have value but the company as a whole does not.

It is the most successful aspect of privatization in Poland. Most of the

liquidated companies were small units in the construction industry,

communications, transport, agriculture or manufacturing. Liquidation allowed

state enterprise property in Poland to be sold, transferred to a newly created

company, or rented more quickly than any other form of privatization.

o Management or employee boy-outs – Many countries have used this method to

transfer ownership of state enterprises to workers or managers. This is seen as a

way of overcoming opposition to privatization and as a way of giving

employees a stake in the future of their companies. Even when management or

employee buy-outs were not the principal instrument for privatization,

 39

governments in many developing countries made provision for employee

shareholdings in their negotiations with private investors in SOEs.

o Free or low-cost distribution of shares – Poland, the Russian Federation and

Romania, as well as some Asian countries, are using “mass privatization” that

allows all citizens or special groups to obtain shares in large numbers of

companies at little or no cost. In the Republic of Korea, the Government has

offered up to 75 per cent of shares in 11 of the most profitable state-owned

enterprises to low-income groups at below-market prices.

“Marketization” or “demonopolization” of SOEs45

In some countries, SOEs providing essential goods or services are being

restructured to make them more efficient. The methods used include:

a. eliminating subsidies and forcing SOEs to recover costs or to make a profit;

b. creating joint-stock companies in which both public and private investors

hold shares and give direction to the enterprise;

c. allowing private firms to compete with SOEs in providing goods and

services, thereby eliminating monopolies; and

d. breaking up SOEs into divisions, some of which are divested while others

are retained as public enterprises.

45
PROKOPENKO, supra note 5, at 18.
 40

Contracting with private companies

In nearly all developing countries, central or local governments are contracting with

private organizations to help provide services that public agencies cannot offer

efficiently or effectively. Contracting for services allows governments to arrange

for private companies to provide services, facilities, or infrastructure that meet

government specifications. Generally, governments contract private organizations

to provide a service through service contracts, management contracts or lease

contracts. These kinds of contracts will be further discussed in the next chapter.

Build-operate-transfer agreements

Under the Build-Operate-Transfer (“BOT”) model, the government turns over

development and initial operation of what typically would be a public-sector

project to the private sector. The private sector contractor or consortium of

contractors finances the project, accomplishes the construction, and operates the

new facility for some specified length of time after which it is expected to transfer

ownership to the government, usually at no cost. The eventual transfer to the

government occurs so it ultimately can retain control of the public service.46

Variations of this model include Build-Transfer or Turnkey, Build-Lease-Transfer,

Build-Transfer-Operate or Design-Build-Operate, and Build-Own-Operate-Transfer

(“BOOT”) or Build-Own-Operate (“BOO”).

As for traditional independent power projects, the cash flows for BOT
46
David L. Seader, The United States’ Experience with Outsourcing, Privatization and Public-
Private Partnerships, available online URL www.ncppp.org (Accessed 02 May 2007).
 41

projects are contractually predetermined, often with government backing. Though

construction risk exists, the absence of market risk--and, hence, the relative

certainty of payment--means that BOTs/BOOs can be financially attractive and

structured with more debt than full-utility concessions, whose cash flows may be

less predictable. Also, construction risks can be mitigated when a discrete facility

already generating cash flows is taken over for expansion by the private sector.

There was the case of the 20-year BOT contract in Johor, Malaysia that covers

responsibility for operating an existing treatment water plant and financing its

expansion. As a result of the attractive cash flow profile of the project, the state

government's strong commitment to privatization, and the availability of long-term

local finance at reasonable rates, financing for the $284 million project was raised

in record time--three months after the concession was signed.47

Long-term arrangements--build-own-operate (BOO) or build-operate-

transfer (BOT) contracts for specific water supply/treatment projects and full-utility

concessions--bring not only private management but also private investment.

Projects under BOO/BOT contracts sell specific services to a municipal utility. In

contrast, all facets of the system, especially distribution to consumers, become the

private operator's responsibility under a full-utility concession. Assigning all the

commercial risk to the private sector heightens performance incentives--but a

predictable contractual environment is required to successfully attract private

47
Haarmeyer & Mody, supra note 44.
 42

capital.48

Joint Ventures

The public and private sectors jointly finance, own and operate a project to provide

infrastructure. Risks and responsibilities are shared according to the division of

ownership between the investors and depending on any contractual agreements

between or among partners.49

Others

Besides the traditional spectrum of partnerships, there have been other ways in

which private sector resources have been incorporated into government programs.

For example, vouchers have been successfully used in the food stamp program,

where private grocers provide eligible families with foodstuffs and get payment

from the federal government in reimbursement for the stamps that the families use

for the purchases. Similar voucher programs have been used in subsidized housing

and are now being experimented with in education. 50

Outsourcing to non-governmental organizations (“NGOs”) has a long and

proud tradition in the U.S., where church groups and non-denominational

organizations provide social welfare, health, shelter, education, training and other

48
Id.
49
THOMSEN, supra note 37, at 6.
50
Seader, supra note 46, at 8.
 43

services at the behest of government.51 In the Philippines, for example, the Catholic

Church has played an important role in supplementing the public education system

by running elementary and secondary schools, as well as colleges and universities.

Other religious groups run hospitals and health clinics and provide social services

that are either not available from the government or inadequate.52

Public Utility Regulation

The shift in public policy over the last two decades away from state ownership and

state responsibility for the provision of services, to private ownership and private

provision with enhanced state regulation, is sometimes described as the rise of the

‘regulatory state’53. Alternatively, it has been referred to in terms of the ‘invisible

hand’ of the market being supplemented by the ‘visible hand’ of regulators.54 The

role of the public sector has gradually transformed from owner, planner and

financier of utility infrastructures facilities, to that of regulator of fair and equal

market competition and safeguarder of public interests.55 In this regime the state

ceases to be directly concerned with the provision of goods and services and

instead concentrates upon regulating private markets to promote economic and

51
Id.
52
PROKOPENKO, supra note 5, at 23.
53
G. Majone, From the Positive to the Regulatory State: Causes and Consequences of Changes in
the Mode of Governance’, 17 JOURNAL OF PUBLIC POLICY 139-67 (1997).
54
P.M. JACKSON & C. PRICE, PRIVATIZATION AND REGULATION – A REVIEW OF THE
ISSUES (1994).
55
Martinjin Kuit, Igor Mayer, & Martin de Jong, (Re)Designing Regulatory Regime for Utility
Sector (2004).
 44

social welfare.56 These markets can be competitive, highly oligopolistic or even

monopolistic. Where privatization is associated with the creation of private

monopoly then some form of continued state regulation is required to protect

consumers from monopoly abuse. In cases where markets are oligopolistic or even

competitive, state regulation may still be necessary to prevent the abuse of a

dominant position, the creation of cartels and in other ways to protect consumers

through developing an effective ‘competition policy’. Moreover, state regulation is

also adopted internationally to protect society in the form of the regulation of

working conditions, product quality, the environment, health and safety and the

like.57

Re-regulation of liberalized utility markets involves the design of a

regulatory regime. The regulatory regime is used to monitor, and to a certain extent

control, the strategic behavior of producers, suppliers and others, under market

conditions. The objective is to guarantee a level playing field and / or safeguard

relevant public values such as safety and quality of utility production, products and

services.58

The determination of proper profit margins is what the regulating body

should concentrate on, as well as making sure the services are delivered by the

investors. Offering an attractive return to the foreign investor is not necessarily

56
Paul Cook, Colin Kirkpatrick, Martin Minogue, and David Parker, Competition, Regulation, and
Regulatory Governance in Developing Countries: An Overview of the Research Issues 3 (2003).
57
Id. at 2.
58
Kuit, Mayer, & de Jong, supra note 55, at 2.
 45

selling the country down the river, as long as these profits are earned through

services provided in a timely and adequate manner to help the growth of the

economy. The regulatory body should formulate ground rules at the outset. And

the regulatory body should also make sure that the investors do not take unfair

advantage of the host country just because the country needs the capital and the

expertise.59

Regulation by the state can take many forms, from regulating employment

terms, to health and safety legislation, to food safety, to regulating the environment,

to regulating specific industries, and so on. In recent years with the privatization of

industries previously owned by the state in which competition is limited or absent,

such as electricity, telecommunications, postal services, railways and water,

regulation at the industry level has increased.60

The three major purposes of regulation in private infrastructure

development are as follows: 61

(i) Encourage efficiency and innovation by promoting vigorous market

competition where this is possible.

(ii) Ensure the right amount of investment and regulate natural monopoly

elements where competition is not possible or not yet possible.

59
Gordon Wu, Private Interest v. Public Good: Governance Dimensions of Regulatory Frameworks
for Private Infrastructure Development, during the proceedings of an ADB/OECD Seminar, Geneva
1998.
60
Cook, Kirkpatrick, Minogue, and Parker, supra note 56, at 8.
61
Scott Jacobs, Private Interest v. Public Good: Governance Dimensions of Regulatory
Frameworks for Private Infrastructure Development, presented during the proceedings of an
ADB/OECD Seminar, Geneva 1998.
 46

(iii) Provide efficient protection for other public policies and public interests

such as universal service and access to these vital public or private services,

including security of supply, environmental protection, consumer protection

and so forth.

In addition to the administration and compliance costs of regulation, the

effects of regulation on the economy are related to the degree of ‘regulatory risk’

created. Whereas competitive, unregulated markets are associated with the normal

commercial risks of trading, relating to changes in demand and supply and

developments in the macro-economy e.g. interest rate changes, regulated markets

suffer from an additional risk. Regulatory risk is an outcome of uncertainty and

inconsistency in the regulatory regime, which leaves private agents including

businesses fearful of current and future regulatory decisions. Where regulatory risk

is appreciable, investors will seek compensation in the form of a larger expected

return leading to a higher cost of capital. The higher the cost of capital, the lower

will be the rate of investment.62 Where regulatory risk becomes very high private

investment may even collapse. Lower income economies with poorly developed

institutional structures, including regulatory agencies, are likely to be associated

with high regulatory risk.63 This is an important reason for the study of regulation

in the context of economic development, with the aim of improving regulatory

62
J, L. Guasch & R.W. Hahn, The Costs and Benefits of Regulation: Implications for Developing
Countries, 14 WORLD BANK RESEARCH OBSERVER 1, 137-58 (1999).
63
B. LEVY & P. SPILLER, REGULATIONS, INSTITUTIONS AND COMMITMENT (1996).
 47

decision making and processes in the developing world.64

Another set of issues in the study of regulation relates to the regulatory

structures and regulatory instruments used. Regulatory structure is concerned with

the form of administration that the regulation takes. Regulatory instruments are the

tools and techniques that the regulator uses in the pursuit of effective regulation. In

particular, utility regulators will be concerned with the setting of prices and/or

profits in the regulated business and with the quality of service. Although various

differences exist in the precise instruments used, the approach to price and profit

regulation tends to take one of three general forms, namely cost of service

regulation, price cap regulation or sliding scale regulation.65

The following are examples of regulatory regimes66:

(i) The open systems model emphasizes the risk taking and innovating

behavior of the regulator.

(ii) The rational goal model pictures the regulator as goal oriented and

competitive.

(iii) The internal process model is in line with the traditional regulatory regimes

and emphasizes the importance of mechanistic control over the sector.

(iv) The human relations model assumes that organizations and people are

mutually dependent and operate in a network.

64
Cook, Kirkpatrick, Minogue, and Parker, supra note 56, at 15.
65
Id. at 16.
66
Kuit, Mayer, & de Jong, supra note 55, at 4.
 48

(v) The legislative policy making model: this model portrays the regulator as an

institution aiming to take effective decisions based on (imperfect) market

information. The regulator has to interact with the market parties to get this

market information.

(vi) The regulation by information model: in this model the regulator provides

information to consumers to re-balance possible market imperfections. The

regulator will therefore become an information based (service) organization.

(vii) Regulation by negotiation: the regulator negotiates actively with

stakeholders about policies and decisions or the settling of possible

conflicts.

(viii) Consumer protection model: in this model the regulator responds to

complaints from (small) consumers and takes adequate decisions to correct

market failures, i.e. naming and blaming. Therefore, regulation relies on

negotiation and consensus.

In appraising the regulatory governance, there are six criteria used by the

Asian Development Bank. These are: 67

(i) Clarity of roles and objectives. This is particularly important as it defines

the crucial dividing line between (a) Government and Ministries and the

regulatory agency and (b) the corresponding division between policy issues

67
Jon Stern, Private Interest v. Public Good: Governance Dimensions of Regulatory Frameworks
for Private Infrastructure Development, during the proceedings of an ADB/OECD Seminar, Geneva
1998.
 49

and regulatory issues.

(ii) Autonomy. This refers to the question of the degree of independence of the

regulatory agency, particularly from ad hoc political intervention. But it

also includes things like security of the sources of funding, protection of

regulators against unfair dismissal, etc.

(iii) Participation. The key point under this heading is that all relevant parties

(firms, consumers, etc.) should be able to contribute effectively to the

regulatory process.

(iv) Accountability. The accountability criteria has been used to cover formal

accountability and legal requirements, e.g. to the law courts and the

legislature, to provide written decisions, to prepare an annual report etc.

This criterion also includes the important question of appeals mechanisms.

(v) Transparency. Transparency represents the obligation to explain and justify

processes, methodologies, procedures and decisions. It is as important as

formal accountability. Transparency relates to the obligation to explain and

justify processes, methodologies, procedures and decisions. In other

contexts, one refers to transparency and participation as the key elements of

informal accountability.

(vi) Predictability. The essential point on predictability is that governments,

firms and consumers all need to have confidence that the regulators will

behave consistently. There has to be an understanding about the "rules of

 50

the game" and a belief that the rules of the game will not suddenly change

and undermine the basis under which investment decisions have previously

been made.
 51

Chapter 4
Relationships Between the Public Utility and the Private Companies
in Contracting Out the Performance of Public Service

From the previous chapters, the author has provided a broad overview about

privatizing public utilities. As discussed, there are many modes wherein a public

utility can be privatized.

In this chapter, the author will focus on a less broad mode of privatization –

contracting out the performance of public service to private companies. How is this

mode of privatization really done? Usually, a franchise is required for the operation

of a public utility. This is the traditional mode of contracting out public service

through private companies, as in the case of NAPOCOR and MERALCO.

However, there are other equally valid modes of contracting out public service. The

traditional notion of a franchise as a regular enactment of the legislative branch has

evolved, as the granting of permission for the operation of a public utility devolves

from the legislature down to specialized agencies of the government.

The Necessity of a Franchise, Certificates of Public Convenience or

Certificates of Public Convenience and Necessity

Section 11, Article XII of the 1987 Constitution (adopted from Sec. 5, Art. XIV of

the 1973 Constitution), implies that a franchise is required in the operation of a

public utility and in requiring such franchise the operator must meet the necessary
 52

nationality requirement. It provides:

No franchise, certificate, or any other form of authorization for the

operation of a public utility shall be granted except to citizens of the Philippines or
to corporations or associations organized under the laws of the Philippines at least
sixty per centum of whose capital is owned by such citizens, nor shall such
franchise, certificate, or authorization be exclusive in character for a longer period
than fifty years. Neither shall any such franchise or right be granted except under
the condition that it shall be subject to amendment, alteration, repeal by the
Congress when the common good so requires. The State shall encourage equity
participation in public utilities by the general public. The participation of foreign
investors in the governing body of any public utility enterprise shall be limited to
their proportionate share in its capital and all the executive and managing officers
of such corporation or association must be citizens of the Philippines.

However, the Philippine Supreme Court held in Albano v. Reyes68 that:

“Franchises issued by Congress are not required before each and every public
utility may operate. Thus, the law has granted certain administrative agencies the
power to grant licenses for or to authorize the operation of certain public utilities.”

Congress has granted certain administrative agencies the power to grant

licenses for, or to authorize the operation of certain public utilities. With the

growing complexity of modem life, the multiplication of the subjects of

governmental regulation and the increased difficulty of administering the laws,

there is a constantly growing tendency towards the delegation of greater powers by

the legislature, and towards the approval of the practice by the courts. It is generally

recognized that a franchise may be derived indirectly from the state through a duly

designated agency, and to this extent, the power to grant franchises has frequently

been delegated, even to agencies other than those of a legislative nature. In

pursuance of this, it has been held that privileges conferred by grant by local

68
Albano v. Reyes, 175 SCRA 264, 271 (1989).
 53

authorities as agents for the state constitute as much a legislative franchise as

though the grant had been made by an act of the Legislature. The trend of modem

legislation is to vest the Public Service Commissioner69 with the power to regulate

and control the operation of public services under reasonable rules and regulations,

and as a general rule, courts will not interfere with the exercise of that discretion

when it is just and reasonable and founded upon a legal right.70

Section 15 of Commonwealth Act No. 14671 (Public Service Act) provides

that no public service shall operate in the Philippines without possessing a valid

and subsisting certificate from the Public Service Commission known as

"certificate of public convenience," or "certificate of public convenience and

necessity," as the case may be, to the effect that the operation of said service and

the authorization to do business will promote the public interests in a proper and

suitable manner. It specifically provides for the necessity of procuring a certificate

of public convenience/certificate of public convenience and necessity as a pre-

requisite in operating a “public service”.

By creating the Public Service Commission (the Commission), the intention

of the Public Service Act is to allow the state to regulate, supervise, and control

private businesses imbued with public interest as termed “public services” such as

those involving any common carrier, railroad, street railway, traction railway, sub-

69
The Public Service Commissioners used to sit on the Public Service Commission created under
Commonwealth Act No. 146.
70
Philippine Airlines, Inc. v. Civil Aeronautics Board and Grand International Airways, 270 SCRA
538, 550 (1997).
71
Public Service Act, Commonwealth Act No. 146 [CA 146] (1936).
 54

way motor vehicle, either for freight or passenger, or both with or without fixed

route and whether may be its classification, freight or carrier service of any class,

express service, steamboat or steamship line, pontines, ferries, and water craft,

engaged in the transportation of passengers or freight or both, shipyard, marine

railways, marine repair shop, warehouse, wharf or dock, ice plant, ice-refrigeration

plant, canal, irrigation system, gas, electric light, heat and power water supply and

power, petroleum, sewerage system, wire or wireless communications system, wire

or wireless broadcasting stations and other similar public services.72

The Public Service Commission was supposed to take care of all “public

services” since 1913. Its task was to make sure private entities rendering public

service (usually the public utilities) render safe, adequate and satisfactory services

to the public regulating entry and rate-setting. However, separate regulators for

public utilities were created beginning with the National Telecommunications

Commission in 1927 and the Civil Aeronautics Board (now Air Transportation

Office) in 1931, perhaps in acknowledgment of the difficulty of including these

fast-changing technologies under the same frame as electricity, water and

transportation. In 1971, PSC was abolished and sectoral regulatory bodies were

gradually established in its stead.73

In the Integrated Reorganization Plan which was implemented by PD 1, the

72
CA 146, §13 (b).
73
Ledivina V. Cariño, Regulatory Governance in the Philippines Lessons for Policy and
Institutional Reform, available online URL www.competition-
regulation.org.uk/conferences/mcr05/carino.pdf (Accessed July 21, 2007).
 55

Public Service Commission was abolished. The same Reorganization Plan, under

Part X, Art. III (8), created three different boards, to wit: Board of Transportation,

Board of Communications and Board of Power and Waterworks which shall

exercise “ x x the pertinent regulatory and adjudicatory functions of the Public

Service Commission and the Civil Aeronautics Board.” In view of the said

provisions in the Reorganization Plan as implemented by PD 1, the other provisions

of CA 146, are still in full force and effect.74

On the other hand, the Public Service Act further provides that public

services owned or operated by government entities or government-owned or

controlled corporations shall be regulated by the Commission in the same way as

privately-owned public services, but certificates of public convenience or

certificates of public convenience and necessity shall not be required of such

entities or corporations.75 This provision of the law strengthens the argument that

the law’s intention is only to require private businesses involved in public services

the procurement of certificates of public convenience or certificates of public

convenience and necessity. This is logical because GOCCs involved in public

service are usually governed by their own charters, and such can be considered as

equivalent to a legislative franchise. It can be said that the regulation of public

service requires the procurement of certificates of public convenience or certificates

74
CA 146, note 1, available online URL
www.erc.gov.ph/pdf/960_CA%20146%20Public%20Service%20Commission%20Act.pdf
(Accessed July 21, 2007)
75
CA 146, §13 (a)
 56

of public convenience and necessity whenever the operator is a private company,

but not when the operator is a GOCC, which already has a its own charter as

provided by the legislature itself.

Public utilities and public services delineated

All public utilities are public services but the converse is not true. Whether one is a

public utility is a matter of judicial, not legislative determination. Hence, in 2003,

the Supreme Court in JG Summit Holdings, Inc. v. Court of Appeals76, in holding

that by nature a shipyard is not a public utility, reiterated the definition of a public

utility. In addition to that, it explained the difference between a “public service”

and a public utility. It said:

A “public utility” is a business or service engaged in regularly supplying

the public with some commodity or service of public consequence such as
electricity, gas, water, transportation, telephone or telegraph service. To constitute
a public utility, the facility must be necessary for the maintenance of life and
occupation of the residents. However, the fact that a business offers services or
goods that promote public good and serve the interest of the public does not
automatically make it a public utility. Public use is not synonymous with public
interest. As its name indicates, the term “public utility” implies public use and
service to the public. The principal determinative characteristic of a public
utility is that of service to, or readiness to serve, an indefinite public or portion of
the public as such which has a legal right to demand and receive its services or
commodities. Stated otherwise, the owner or person in control of a public utility
must have devoted it to such use that the public generally or that part of the public
which has been served and has accepted the service, has the right to demand that
use or service so long as it is continued, with reasonable efficiency and under
proper charges. Unlike a private enterprise which independently determines whom
it will serve, a “public utility holds out generally and may not refuse legitimate
demand for service.

76
JG Summit Holdings, Inc. v. Court of Appeals, 412 SCRA 10, 20-21 (2003).
 57

The fact that a business is affected with public interest does not imply that it

is under a duty to serve the public. While the business may be regulated for public

good, the regulation cannot justify the classification of a purely private enterprise

as a public utility. The legislature cannot, by its mere declaration, make something

a public utility which is not in fact such; and a private business operated under

private contracts with selected customers and not devoted to public use cannot, by

legislative fiat or by order of a public service commission, be declared a public

utility, since that would be taking private property for public use without just

compensation, which cannot be done consistently with the due process clause.77 It

may be pointed out that all public utilities are public services but the converse is

not true. This is so because the term “public utility” connotes public use and service

to the public.

Franchise, certificate of public convenience, &

certificate of public necessity and convenience defined

A public utility requires a franchise, aside from a certificate of public necessity and

convenience, for its operation, while a public service which is not a public utility

requires only a certificate of public convenience. The dichotomy in requirements

flows from the enforced indeterminacy of the market for the service provided by a

77
Id. at 22.
 58

public utility.78

“Certificate of Public Convenience” is issued by the Public Service

Commission (the “Commission”) authorizing the operation of public service within

the Philippines whenever the Commission finds that the operation of the public

service proposed will promote the public interests in a proper and suitable manner,

while a “certificate of public convenience and necessity” is issued by the

Commission upon approval of any franchise or privilege granted by any political

subdivision of the Philippines when in the judgment of the Commission, such

franchise or privilege will properly conserve the public interest.79

Many and varied are the definitions of certificates of public convenience

which courts and legal writers have drafted. Some statutes use the terms

"convenience and necessity" while others use only the words "public convenience."

The terms "convenience and necessity", if used together in a statute, are usually

held not to be separable, but are construed together. Both words modify each other

and must be construed together. The word 'necessity' is so connected, not as an

additional requirement but to modify and qualify what might otherwise be taken as

the strict significance of the word necessity. Public convenience and necessity

exists when the proposed facility will meet a reasonable want of the public and

supply, a need which the existing facilities do not adequately afford. It does not

mean or require an actual physical necessity or an indispensable thing. The use of

78
NOLI C. DIAZ, TRANSPORTATION LAWS NOTES AND CASES 225 (2006).
79
Id. at 236.
 59

the word "necessity" in conjunction with "public convenience" in a certificate of

authorization to a public service entity to operate, does not in any way modify the

nature of such certification, or the requirements for the issuance of the same. It is

the law which determines the requisites for the issuance of such certification, and

not the title indicating the certificate. 80 In other words, there is no more distinction

between certificate of public convenience and certificate of convenience and public

necessity.

Instances When Franchise, Certificates of Public Convenience or Certificates

of Public Convenience and Necessity Need Not Be Procured

As discussed in the foregoing, a public utility requires a franchise, aside from a

certificate of public necessity and convenience, for its operation, while a public

service which is not a public utility requires only a certificate of public

convenience. All these requirements aim to regulate the business of a public utility

or a private entity engaged in public service because, as already discussed in the

preceding topics, such businesses are imbued with public interest – thereby being

subject to state regulation.

The Public Service Act, Section 14 specifically, provides for exceptions to

the rule that entities engaged in public service must procure a certificate of public

convenience or a certificate of public convenience and necessity. These are

80
Philippine Airlines, Inc. v. Civil Aeronautics Board and Grand International Airways, 270 SCRA
538, 553 (1997).
 60

warehouses; vehicles drawn by animals and bancas moved by oar or sail, and

tugboats and lighters; airships within the Philippines except as regards the fixing of

their maximum rates on freight and passengers; radio companies except with

respect to the fixing of rates; and public services owned or operated by any

instrumentality of the National Government or by any government-owned or

controlled corporation, except with respect to the fixing of rates.

With respect to the last exception, it is worth noting that there are several

modes when private entities intervene with the operation of public utilities by the

State, while the ownership of the public utilities remain with the State. This

situation causes the confusion on whether or not these private entities are also

exempted from the requirement imposed by the Public Service Act. Given the

ruling in Albano v. Reyes81 that the operation of a public utility does not necessarily

require a franchise and that the law has granted certain administrative agencies the

power to grant licenses for or to authorize the operation of certain public utilities, it

is safe to conclude that the contracts entered into by the private operator and the

government entity engaged in public service or public utility are equivalent to the

authorization by the State for the private entity to operate a public utility. These

contracts may take the following forms:

81
Albano v. Reyes, 175 SCRA 264, 271 (1989).
 61

Service Contracts82

The public sector retains the greatest degree of control over its services and

facilities when the private sector participates through a service contract. In service

contracting, or “contracting out,” the government contracts with private entities to

supply functional responsibilities that the governmental previously performed, such

as garbage pick up, billing and collection, janitorial services, etc. By allowing the

private sector to compete for service contracts, the government introduces

competition into a previously monopoly-driven area. The public can benefit from

competition in reduced service delivery costs, improved service quality, and

improved morale of public employees and managers.

In the U.S., existing government employees are often permitted to compete

along with private firms for the right to a service contract in a method called

“managed competition.” The existing employees submit a proposal the same as the

private providers, and they are evaluated on the same basis. This method is fraught

with difficulties and is often challenged by the private sector as inherently unfair,

but it can be quite effective at achieving employee participation in the overall

process.

Management Contracts

Like the service contract option discussed above, in a management contract, a

82
Seader, supra note 46.
 62

private partner operates a publicly owned facility under contract with the

sponsoring government. A management contract is broader than a service contract;

the private operator is responsible for all aspects of operations and maintenance as

opposed to only certain functions. Private operation of a facility can result in

improved service and efficiency, but this option is still on the public end of the

spectrum as the private sector does not have a financial stake in the facility or

service, but rather is merely providing it. There are dozens of water and sewage

treatment plants in the U.S. that are operated on this basis, as well as hundreds of

services and facilities in all parts of the public sector, from education to sanitation

to public works. Some U.S. cities outsource their entire public works functions to

private service companies. This type of service provision is limited more by the

availability of a competitive set of service providers than by the imagination and

leadership of government leaders.83

The Mexican government awarded 10-year management contracts for each

quadrant of the city to four separate private companies. In three phases, the

contractors are responsible for undertaking a census of the users and installing

meters, billing and collecting tariffs, and rehabilitating the system. They are paid

fixed fees by the government. Once the system is financially and operationally in

order, the government is expected to award concessions. The devaluation of the

peso in December 1994 caused serious financial strain--since operator fees and

equipment purchases were denominated in foreign currencies--and set the program

83
Id.
 63

back.84

Affermage or Lease Agreement

The private operator manages the services for a period (often five to fifteen years)

and is responsible for maintaining and renewing the facilities according to the

terms of the contract. In this capacity, it takes charge of all personnel and existing

assets but is not responsible for financing new facilities. The public authority

remains responsible for all new investment and compliance to existing norms. The

private operator invoices the end-users directly.85

Guinea, a West African nation with a low per capita income, has achieved

solid improvements in its water systems under a lease contract with a private

operator. A subsidy arrangement was used to ease the transition to higher tariffs.

Recently, however, coordination problems with the government have resulted from

lack of clarity in the allocation of commercial risks. The high tariffs have also

resulted in serious nonpayment problems.86

Management and lease contracts have one major shortcoming: they do not

assign full commercial risks to the operator--in particular, private capital

investments are not at risk.87

84
Haarmeyer & Mody, supra note 44.
85
THOMSEN, supra note 37.
86
Haarmeyer & Mody, supra note 44.
87
Id.
 64

Concession

With a concession, the government grants to a private firm or consortium the

exclusive rights to operate, maintain and manage the entire system for an extended

period of time. The basic system is still owned by the public, but the private

concessionaire owns all improvements and extensions. The operating requirements

placed on the private firm are contained in a concession agreement that details all

of the performance expectations that need to be met in order to maintain the

concession in effect. The concessionaire sets the rates for the service under the

regulatory requirements of the government. Unless neutral, informed regulation is

provided, a concession arrangement will not work. For the rights to operate the

system and reap the profits from such operations, the private firm may be required

to pay an initial and/or annual concession fee to the government, and to commit to

certain levels of investment over the course of the concession period. The

concession yields total operational responsibility to the private consortium for the

length of the concession without transferring or selling the assets. The U.S

electrical sector serves the public under these arrangements.88

In Malaysia, the government signed a novel and ambitious 28-year

concession with a private consortium to upgrade, rehabilitate, and extend the entire

country's sewerage system. Although the estimated $2.8 billion contract was

88
Seader, supra note 46.
 65

awarded in 1993, progress has been slow, primarily because of significant public

and commercial backlash from tariff collection and tariff increases. Malaysia's

experience points to the unique risk allocation issues raised by private provision of

retail sanitation services in instances where these services have never been centrally

provided before, the legal right to cut off service for nonpayment is absent, and

sewerage and water services are billed separately.89

New World, a Hong Kong (China) based development company took over

the operations of Macau Water Supply Company, commonly known as Sociedal de

Abastecimento de Aguas de Macau (SAAM) in 1982. The government put the

condition that tariffs could not be increased. New World increased the income by

replacing meters and by improving utility’s management and financial systems.

The unaccounted-for-water reduced from 40.3% in 1982 to 24.5% in 1984. In that

year, the government and New World invited Lyonnaise des Eaux to help them

improve water quality. Based on the negotiations, the concession contract, which

was not put to commercial tender, was signed in 1985 and runs for 25 years till

2010.90

Full-utility concessions can also be attractive to lenders, since existing

revenue streams can be used immediately to service debt, thereby mitigating

construction risk. In addition, over time, an established utility can benefit from both

a steady flow of revenues from a diversified customer base and, if it integrates

89
Haarmeyer & Mody, supra note 44.
90
Id.
 66

horizontally, from a diversified asset base. By creating a more robust balance sheet,

these revenues may permit the utility to obtain financing internally as well as to use

capital markets to sell long-term debt.91

91
Id.
 67

"In their efforts to provide a sufficiency of water

where there was not one, men have resorted
to every expedient from prayer to dynamite.

The story of their efforts is, on the whole,

one of pathos and tragedy,
of a few successes and many failures"

-- Walter Prescott Webb (The Great Plains)

 68

Chapter 5
Foregoing the Requirement of a Franchise for the Performance of
Public Service by a Private Company in the Operations of MWSS

From the previous chapter, which treats a public utility in a general manner, the

author, in this chapter, focuses on the water public utility, particularly that which

concerns the MWSS concession agreements. A perusal of the subsequent

discussions show that, at least in the Philippine setting, it is legal for the MWSS

concessionaires to operate a water public utility without the need to procure a

legislative franchise, a certificate of public convenience, or a certificate of public

convenience and necessity, the concession agreement being substantial compliance

for such requirement.

The Philippine Supreme Court held in Albano v. Reyes92 that:

“Franchises issued by Congress are not required before each and every public
utility may operate. Thus, the law has granted certain administrative agencies the
power to grant licenses for or to authorize the operation of certain public utilities.”

Congress has granted certain administrative agencies the power to grant

licenses for, or to authorize the operation of certain public utilities. With the

growing complexity of modem life, the multiplication of the subjects of

governmental regulation, and the increased difficulty of administering the laws,

there is a constantly growing tendency towards the delegation of greater powers by

the legislature, and towards the approval of the practice by the courts. It is generally

92
Albano v. Reyes, 175 SCRA 264, 271 (1989).
 69

recognized that a franchise may be derived indirectly from the state through a duly

designated agency, and to this extent, the power to grant franchises has frequently

been delegated, even to agencies other than those of a legislative nature. In

pursuance of this, it has been held that privileges conferred by grant by local

authorities as agents for the state constitute as much a legislative franchise as

though the grant had been made by an act of the Legislature.93

In addition, the 1987 Philippine Constitution does not limit to a franchise

grant the means by which a public utility may operate. A public utility may operate

through a franchise grant, a certificate, or any other form of authorization. Section

11 of Article 12 provides:

Section 11. No franchise, certificate, or any other form of

authorization for the operation of a public utility shall be granted except to
citizens of the Philippines or to corporations or associations organized under the
laws of the Philippines at least sixty per centum of whose capital is owned by such
citizens, nor shall such franchise, certificate, or authorization be exclusive in
character or for a longer period than fifty years. Neither shall any such
franchise or right be granted except under the condition that it shall be subject
to amendment, alteration, or repeal by Congress when the common good so
requires. The State shall encourage equity participation in public utilities by the
general public. The participation of foreign investors in the governing body of any
public utility enterprise shall be limited to their proportionate share in its capital,
and all the executive and managing officers of such corporation or association
must be citizens of the Philippines.

In the case of the MWSS Concessionaires Maynilad and Manila Water, it is

clear that they neither have a franchise nor any certificate that grants them the

operation of a public utility, MWSS in particular. Hence, the means by which they

93
Philippine Airlines, Inc. v. Civil Aeronautics Board and Grand International Airways, 270 SCRA
538, 550 (1997).
 70

are granted the authority to operate has been narrowed down, as per Section 11

Article 12 of the 1987 Constitution, to “any other form of authorization.” The

discussions below explain such other forms of authorization that will justify the

operation of the MWSS concessionaires with neither franchise nor certificate.

Republic Act No. 6234, the MWSS Charter

This law was enacted on June 19, 1971. It created a government corporation to be

known as the Metropolitan Waterworks and Sewerage System. It’s declared policy

states that the proper operation and maintenance of waterworks system (the

“System”) to insure an uninterrupted and adequate supply and distribution of

potable water for domestic and other purposes and the proper operation and

maintenance of sewerage systems are essential public services because they are

vital to public health and safety. It is therefore declared a policy of the State that the

establishment, operation and maintenance of such systems must be supervised and

controlled by the state.

The System has jurisdiction, supervision and control over all waterworks

and sewerage system in the territory comprising the cities of Manila, Pasay,

Quezon, Cavite and Caloocan, and the municipalities of Antipolo, Cainta, Las

Piñas, Makati, Malabon, Mandaluyong, Marikina, Montalban, Navotas, Parañaque,

Pasig, Pateros, San Juan, San Mateo, Taguig, Taytay, all of Rizal Province, the

municipalities of Bacoor, Imus Kawit, Noveleta, Rosario, all of Cavite province

 71

and Valenzuela.

The following powers, attributes, and functions were granted the system:94

a. To exist and have continuous succession under its corporate name for a term of
fifty (50) years from and after the date of the approval of the MWSS Charter,
notwithstanding any provision of law to the contrary: Provided, however, That at
the end of the said period, the System shall automatically continue to exist for
another fifty (50) years, unless otherwise provided by law;
b. To prescribe its by-law;
c. To adopt and use a seal and alter it at its pleasure;
d. To sue and be sued;
e. To establish the basic and broad policies and goals of the System;
f. To construct, maintain, and operate dams, reservoirs, conduits, aqueducts, tunnels,
purification plants, water mains, pipes, fire hydrants, pumping stations,
machineries and other waterworks for the purpose of supplying water to the
inhabitants of its territory, for domestic and other purposes; and to purify, regulate
and control the use, as well as prevent the wastage of water;
g. To construct, maintain, and operate such sanitary sewerages as may be necessary
for the proper sanitation and other uses of the cities and towns comprising the
System;
h. To fix periodically water rates and sewerage service fees as the System may deem
just and equitable in accordance with the standards outlined in Section 12 of the
MWSS Charter;
i. To construct, develop, maintain and operate such artesian wells and springs as
may be needed in its operation within its territory;
j. To acquire, purchase, hold, transfer, sell, lease, rent, mortgage, encumber, and
otherwise dispose of real and personal property, including rights and franchises,
consistent with the purpose for which the System is created and reasonably
required for the transaction of the lawful business of the same;
k. To construct works across, over, through and/or alongside, any stream, water-
course, canal, ditch, flume, street, avenue, highway or railway, whether public or
private, as the location of said works may require: Provided, That, such works be
constructed in such manner as to afford security to life and property and so as not
to obstruct traffic: Provided, further, That the stream, water-course, canal, ditch,
flume, street, avenue, highway or railway so crossed or intersected be restored
without unnecessary delay to its former state. Any person or entity whose right
may be prejudice by said works shall not obstruct the same; however, he shall be
given reasonable notice before the construction and shall be paid just
compensation. The System shall likewise have the right to locate, construct and
maintain such works on, over and/or through any street, avenue, or highway and
land and/or real rights of the Republic of the Philippines or any of its branches,
agencies and political subdivisions upon due notice to the office, or entity

94
MWSS Charter, Republic Act No. 6234, § 3 (1971).
 72

concerned, subject solely to the condition that the street, avenue, or highway in
which said works are constructed be restored without unnecessary delay to its
former state unless otherwise agreed upon by the System and the office or entity
concerned;
l. To exercise the right of eminent domain for the purpose for which the System is
created;
m. To contract indebtedness in any currency and issue bonds to finance projects now
authorized for the National Waterworks and Sewerage Authority under existing
laws and as may hereafter be expressly authorized by law with the approval of the
President of the Philippines upon the recommendation of the Secretary of the
Finance;
n. To approve, regulate, and supervise the establishment, operation and maintenance
of waterworks and deepwells within its jurisdiction operated for commercial,
industrial and governmental purposes and to fix just and equitable rates or fees
that may be charged to customers thereof;
o. To assist in the establishment, operation and maintenance of waterworks and
sewerage systems within its jurisdiction under cooperative basis;
p. To approve and regulate the establishment and construction of waterworks and
sewerage systems in privately owned subdivisions within its jurisdiction;
q. To have exclusive and sole right to test, mount, dismount and remount water
meters within its jurisdiction;
r. To render annual reports to the President of the Philippines and the Presiding
Officers of the two Houses of Congress not later than January thirty-first of every
year.

Take note of “letter n” as one of the System’s powers -- to approve,

regulate, and supervise the establishment, operation and maintenance of

waterworks and deepwells within its jurisdiction operated for commercial,

industrial and governmental purposes and to fix just and equitable rates or fees that

may be charged to customers thereof – and “letter j” – to acquire, purchase, hold,

transfer, sell, lease, rent, mortgage, encumber, and otherwise dispose of real and

personal property, including rights and franchises, consistent with the purpose for

which the System is created and reasonably required for the transaction of the

lawful business of the same.

 73

These powers serve as the authority delegated by Congress in order for an

administrative agency such as MWSS to regulate the operation of waterworks

within its jurisdiction. There is no need for a franchise or a certificate of public

convenience and necessity because it now depends on the System how they will

regulate the operation of waterworks in its jurisdiction, which is a public utility by

nature according to the case of Albano v. Reyes. Entering into a contract with

private entities is a form of such regulation, substantially meeting the intention of

the law – State regulation of a business imbued with public interest.

The National Water Crisis Act of 1995 and

the Ramos Executive Orders

The Ramos administration has prioritized the privatization of non-performing SOEs

in order to produce huge revenues for the government. Aside from the revenues to

be reaped, the government is virtually stripped of all the liabilities by the privatized

SOE including loans from banks and other financial institutions. In addition to that,

the long inefficient tradition of government subsidy to the non-performing SOEs

has been broken.

One of the issues of national priority discussed by President Ramos with

then Secretary of Public Works and Highways (DPWH) Vigilar, was the water

crisis being experienced by the country. Although nobody was really aware of this

fact, the President has anticipated that crisis after the earlier power crisis was
 74

resolved. Through “Water Summits”, the public was made aware of the decades-

old problem of 50% “Non-Revenue Water”. This means that 50% of water coming

from the System goes to leaks, illegal connections, and other wasteful operations.

The President wanted the public to become aware of problems like this because the

people need to know that reforms are badly needed in this sector. This gave the

President leverage needed to undertake important reforms.95

In February 1995, the National Water Crisis Act96 was being pushed by the

House of Representatives in order to solve the water crisis in the same way the

“Power Crisis Act” resolved the earlier power crisis. The proposed legislation was

quickly passed by the Lower House. In the Senate, however, it encountered rough

sailing. There were feedback that the Senate wanted to delete the provision on

negotiation. As a compromise, the legislators agreed in including in the bill the

granting of authority for the President to privatize water utilities, including MWSS,

and to negotiate BOT contracts, in lieu of an authority to negotiate standard

contracts.97

The law’s declaration of policy states:

It is hereby declared the policy of the State to adopt urgent and effective
measures to address the nationwide water crisis which adversely affects the health
and well-being of the population, food production and industrialization process.

Pursuant thereto the government shall address the issues relevant to the

95
MARK DUMOL, DIRECTIONS IN DEVELOPMENT: THE MANILA WATER
CONCESSION, A KEY GOVERNMENT OFFICIAL’S DIARY OF THE WORLD’S LARGEST
WATER PRIVATIZATION 10 (2000).
96
Republic Act No. 8041 (1995).
97
DUMOL, supra note 95, at 25.
 75

water crisis including, but not limited to, supply, distribution, finance,
privatization of state-run water facilities, the protection and conservation of
watersheds and the waste and pilferage of water, including the serious matter of
graft and corruption in all the water agencies.

The law provided for the reorganization of MWSS and the criminalization

of water theft. More importantly, the law granted the President the power to

negotiate contracts for the water sector, without providing for any particular

procedure. In other words, it gave the President the discretion of choosing the

appropriate procedure in privatizing waterworks. Section 7 provides:

Within six (6) months from the approval of this Act, the President of the
Republic is hereby empowered to revamp the executive leadership and reorganize
the MWSS and the LWUA, including the privatization of any or all segments of
these agencies, operations or facilities if necessary, to make them more
effective and innovative to address the looming water crisis. For this purpose,
the President may abolish or create offices, transfer functions, equipment,
properties, records and personnel; institute drastic cost-cutting and other related
measures to carry out the said objectives. Moreover, in the implementation of this
provision, the prescriptions of Republic Act No. 7430, otherwise known as the
"Attrition Law," shall not apply. Nothing in this section shall result in the
diminution of the present salaries and benefits of the personnel of the MWSS and
the LWUA: Provided, that any official or employee of the said agencies who may
be phased out by reason of the reorganization authorized herein shall be entitled to
such benefits as may be determined by existing laws.

The President may upgrade the compensation of the personnel of the MWSS and
the LWUA at rates commensurate to the improved and efficient revenue
collection of the two agencies as determined by the Board of Trustees and the
same shall be exempted from the provisions of Republic Act No. 6750, otherwise
known as the "Salary Standardization Law," to take effect upon a reduction of
non-revenue water to forty percent (40%) and upon approval by the respective
board of trustees of the MWSS and the LWUA of their budgets.

This authority is broad because it does not provide for any procedure or

scheme to be entered by the President. It merely provides that there will be

“privatization of any or all segments of these agencies, operations or facilities if

necessary, to make them more effective and innovative to address the looming
 76

water crisis.” Thus, the only standard provided by the Legislature is “to make them

more effective and innovative to address the looming water crisis.” The next

sentence “the President may abolish or create offices, transfer functions,

equipment, properties, records and personnel; institute drastic cost-cutting and

other related measures to carry out the said objectives” merely pertains to the

reorganization of MWSS; not its privatization.

Because of the water crisis, it is logical to conclude that the Legislature did

not intend to require a franchise or a certificate of public convenience and necessity

for a private entity to operate a water public utility, as a form of privatization

scheme. It was the most expedient thing to do because procuring a franchise or a

certificate of public convenience and necessity will take so much time as this

requires publication and hearings. Hence, the law gave broad discretion to the

President in addressing the water crisis the soonest time possible. The choice of

action was the contracting-out of MWSS operations to private entities.

On the other hand, it is worth to take a look at Section 6 of the National

Water Crisis Act. It says:

Negotiated Contracts. — For projects to be implemented under Build-

Operate-Transfer (BOT) and/or related schemes, the President of the Republic
may, for a period of one (1) year after the effectivity of this Act, enter into
negotiated contracts for the financing, construction, repair, rehabilitation,
improvement and operation of water facilities and projects related to increasing
water supply, its treatment and its distribution to industrial and household
consumers: Provided, That there is no government financing or financing
guarantee for the contracts, except for the acquisition of right-of-way.

The contracts shall be awarded only to contractors with proven competence and
experience in similar projects, competent key personnel, efficient and reliable
 77

equipment, and sound financial capacity.

Under this provision, the President is also empowered to enter into BOT

contracts and/or related schemes for the operation of water facilities. The term

“related schemes” may pertain to the different contracts mention in Republic Act

No. 695798, as amended by Republic Act No. 771899 such as Build-and-transfer

scheme, Build-own-and-operate, Build-lease-and-transfer, Build-transfer-and-

operate, Contract-add-and-operate, Develop-operate-and-transfer, Rehabilitate-

operate-and-transfer, and Rehabilitate-own-and-operate. Under these schemes,

Section 5 of the law requires a franchise for the operation and maintenance of the

facility. It says:

In the case of a build-operate-and-transfer arrangement, the contract shall

be awarded to the bidder who, having satisfied the minimum financial, technical,
organizational and legal standards required by this Act, has submitted the lowest
bid and most favorable terms for the project, based on the present value of its
proposed tolls, fees, rentals and charges over a fixed term for the facility to be
constructed, rehabilitated, operated and maintained according to the prescribed
minimum design and performance standards, plans and specifications. For this
purpose, the winning project proponent shall be automatically granted by
the appropriate agency the franchise to operate and maintain the facility,
including the collection of tolls, fees, rentals, and charges in accordance with
Section 5 hereof.

Section 6 is different from Section 7. Section 6 talks about a specific mode

of private sector participation. On the other hand, Section 7 provides for a broader

authority to the President. If Section 6 talks about the scheme prescribed for the

98
An Act Authorizing the Financing, Construction, Operation, and Maintenance of Infrastructure
Projects by the Private Sector, Republic Act No. 6957 (1990).
99
An Act Amending Certain Sections of Republic Act No. 6957, Entitled “An Act Authorizing the
Financing, Construction, Operation, and Maintenance of Infrastructure Projects by the Private
Sector, and for Other Purposes,” Republic Act No. 7718 (1994).
 78

privatization of MWSS, it should have said so. Otherwise, privatization should not

have been mentioned in Section 7. In other words, Section 6 does not talk about

privatization scheme that is prescribed by law. It merely talks about “projects” to be

implemented through BOT and/or other related schemes. To the contrary, Section 7

is clearer in specifying the grant of the power to privatize “any or all segments of

these agencies, operations or facilities if necessary.” This grant of authority does

not mention any specific method of privatization. With the looming water crisis, it

gave the President the discretion in choosing the best and most expedient mode of

privatization.

In the exercise of this power granted by law, President Ramos issued

Executive Orders No. 286 and 311 in 1995 and 1996, respectively. These executive

orders proved essential in privatizing the MWSS by contracting-out operations to

private operators.

In accordance with Executive Order No. 286, “whereas the proposed

reorganization is consistent with the Administration's framework for governance,

having been designed to streamline and correct dysfunctions in the structure and

operations of the MWSS and the LWUA to enable these agencies to become more

effective, efficient and responsive to the country's needs for potable water, as well

as prepare the groundwork for their eventual privatization, where feasible,”

President Ramos ordered that “the reorganization of the MWSS and LWUA shall

be undertaken in the context of the Administration's framework of governance.

 79

Accordingly, the role of the national government shall be to steer rather than row. It

shall, to the extent possible, encourage the private sector to participate in the

delivery of public goods through franchising, concession, management,

privatization or other arrangements of the concerned agencies operations or

facilities.”

Executive Order No. 311, entitled “Encouraging Private Sector

Participation in the Operations and Facilities of the Metropolitan Waterworks and

Sewerage System,” played the more important role in allowing contracted-out

operations in the water utility sector by ordering the involvement of the private

sector in any or all of the segments, operations, and/or facilities of the MWSS. It

also laid down the bases for privatizing MWSS such as R.A. No. 8041 (The

National Water Crisis Act of 1995). It said:

NOW, THEREFORE, I, FIDEL V. RAMOS, President of the Republic

of the Philippines, by virtue of the powers vested in me by Republic Act No.
8041, otherwise known as the National Water Crisis Act of 1995, do hereby order:
a. The Metropolitan Waterworks and Sewerage System (MWSS) shall enter into
arrangements that will result in the involvement or participation of the private
sector in any or all of the segments, operations, and/or facilities of the MWSS.
b. The involvement or participation of the private sector may include, but shall not
be limited to: (i) franchising, concession, management, or other arrangements; (ii)
privatization; or (iii) contracts for projects to be implemented under Build-Operate
Transfer (BOT) and/or related schemes for the financing, construction, repair,
rehabilitation, improvement, and operation of water facilities and projects related
to consumers.
The MWSS may carry out its responsibilities under this Executive Order, subject
to approval of the President, pursuant to any of the following:
(i) The provisions of R.A. 8041 (National Water Crisis Act of 1995);
(ii) Proclamation No. 50, as amended, and its related statutes and implementing
rules and regulations, for which purpose the inclusion of the MWSS in the list of
government-owned or controlled corporations for retention under Executive Order
No. 37 is hereby revoked;
 80

(iii) Republic Act No. 6957, as amended by Republic Act No. 7718, and its
implementing rules and regulations;
(iv) Such other laws, rules, orders, and/or proclamations as the MWSS may deem
appropriate.
All executive issuances, orders, rules and regulations, and/or similar issuances
inconsistent with this Executive Order are hereby revoked, amended or modified
accordingly.
This Order shall take effect immediately.

These Executive Orders were issued pursuant to the powers Section 7 of the

National Water Crisis Act of 1995 vested to the President. The decision of

privatizing MWSS through any means depended on the President, provided that the

scheme chosen would make MWSS “more effective and innovative to address the

looming water crisis,” as this is the standard mentioned in the law.

Assuming that a franchise is still required for the operation of the

waterworks, it is generally recognized that a franchise may be derived indirectly

from the state through a duly designated agency, and to this extent, the power to

grant franchises has frequently been delegated, even to agencies other than those of

a legislative nature.100 It can be argued that the power granted by the Section 7 of

the National Water Crisis Act delegated to the President the authority to grant the

operation of waterworks to the private sector. The concession contracts entered

between the government and the concessionaires are considered as substantial

compliance to the requirement of a franchise because these serve as the main

regulatory mechanism of the public utility. Besides, the law has provided for a

100
Philippine Airlines, Inc. v. Civil Aeronautics Board and Grand International Airways, 270 SCRA
538, 550 (1997).
 81

standard in the delegation of such power – to make the MWSS more effective and

innovative to address the looming water crisis. This delegated power is

constitutional as the following standards have also been held constitutional: “fair

and equitable employment practices” as standard for a regulation prescribing a

model contract for overseas workers101; “standardization and regulation of medical

education” as standard for the authority of the Board of Medical Education to set

rules for the closure of medical schools102; and “by the general policy of the law to

protect local consumers by stabilizing and subsidizing domestic pump rates” as

standard for the authority of the Energy Regulatory Board to fix domestic prices of

petroleum products103.

In addition, the Supreme Court in People v. Quasha104 differentiates the

kind of franchise required for the operation of a public utility. To wit –

… the Constitution does not prohibit the mere formation of a public

utility corporation without the required proportion of Filipino capital. What it does
prohibit is the granting of a franchise or other form of authorization for the
operation of a public utility to a corporation already in existence but without the
requisite proportion of Filipino capital. This is obvious from the context, for the
constitutional provision in question qualifies the terms "franchise", "certificate" or
"any other form of authorization" with the phrase "for the operation of a public
utility," thereby making it clear that the franchise meant is not the "primary
franchise" that invests a body of men with corporate existence but the "secondary
franchise" or the privilege to operate as a public utility after the corporation has
already come into being.

It may be true that the concessionaires do not have a franchise that gives

them a corporate existence to operate a public utility. It does, however, have an

101
Eastern Shipping Lines v. POEA, 166 SCRA 533, 545 (1988).
102
Tablarin v. Gutierrez, 152 SCRA 730, 741 (1987).
103
Osmeña v. Orbos, 220 SCRA 703, 711-713 (1993).
104
People v. Quasha, 93 Phil. 333, 338-339 (1953).
 82

authorization from the State to operate as such in the form of a concession, which

regardless of its nomenclature, can be considered as a secondary franchise.

The Public Service Act

Commonwealth Act No. 146105, more commonly known as The Public Service Act,

was passed into law in November 7, 1936. It defined the powers of the Public

Service Commission when it provided that the Commission shall have jurisdiction,

supervision, and control over all public services and their franchises, equipment,

and other properties, and in the exercise of its authority, it shall have the necessary

powers and the aid of the public force.106

The law sought to regulate businesses that are imbued with public interest,

particularly those engaged in public service. It provides that no public service shall

operate in the Philippines without possessing a valid and subsisting certificate from

the Public Service Commission known as "certificate of public convenience," or

"certificate of public convenience and necessity," as the case may be, to the effect

that the operation of said service and the authorization to do business will promote

the public interests in a proper and suitable manner. It defined public service as:107

… including every person that now or hereafter may own, operate,

manage, or control in the Philippines, for hire or compensation, with general or
limited clientele, whether permanent, occasional or accidental, and done for
general business purposes, any common carrier, railroad, street railway, traction

105
Public Service Act, Commonwealth Act No. 146 (1936).
106
Id., § 13 (a).
107
Id., § 13 (b).
 83

railway, sub-way motor vehicle, either for freight or passenger, or both with or
without fixed route and whether may be its classification, freight or carrier service
of any class, express service, steamboat or steamship line, pontines, ferries, and
water craft, engaged in the transportation of passengers or freight or both,
shipyard, marine railways, marine repair shop, [warehouse] wharf or dock, ice
plant, ice-refrigeration plant, canal, irrigation system, gas, electric light, heat and
power water supply and power, petroleum, sewerage system, wire or wireless
communications system, wire or wireless broadcasting stations and other similar
public services: Provided, however, That a person engaged in agriculture, not
otherwise a public service, who owns a motor vehicle and uses it personally
and/or enters into a special contract whereby said motor vehicle is offered for hire
or compensation to a third party or third parties engaged in agriculture, not itself
or themselves a public service, for operation by the latter for a limited time and for
a specific purpose directly connected with the cultivation of his or their farm, the
transportation, processing, and marketing of agricultural products of such third
party or third parties shall not be considered as operating a public service for the
purposes of this Act.

The word "person" includes every individual, co-partnership, joint-stock

company or corporation, whether domestic or foreign, their lessees, trustees, or

receivers, as well as any municipality, province, city, government-owned or

controlled corporation, or agency of the Government of the Philippines, and

whatever other persons or entities that may own or possess or operate public

services.108

The Public Service Act, Section 14 specifically, provides for exceptions to

the rule that entities engaged in public service must procure a certificate of public

convenience or a certificate of public convenience and necessity. These are:

warehouses; vehicles drawn by animals and bancas moved by oar or sail, and

tugboats and lighters; airships within the Philippines except as regards the fixing of

their maximum rates on freight and passengers; radio companies except with

respect to the fixing of rates; and public services owned or operated by any

108
Id., §13(c).
 84

instrumentality of the National Government or by any government-owned or

controlled corporation, except with respect to the fixing of rates.

The last exception provides that public services owned or operated by any

instrumentality of the National Government or by any government-owned or

controlled corporation, except with respect to the fixing of rates, need not procure a

certificate of public convenience or a certificate of public convenience and

necessity. It is maintained by the author that there is really no SOE privatization in

the strictest sense when a public utility contracts-out its operations to the private

sector. The assets of the SOE remain with the SOE. They are not transferred to the

private sector. What is being transferred is the right to operate the SOE and other

powers provided in the contract, but certainly not the assets. Hence, the SOE

remains a government-owned or controlled corporation (GOCC) that falls squarely

within the exception provided by the law. The private operator does not become

the owner of the SOE. The MWSS remains to be owned by the government,

although its operations have been assigned to the private sector.

Take note that the exception mentions “owned OR operated.” The exception

is exclusive of each other and not cumulative. Hence, a simple application of

statutory construction would show that a corporation engaged in public service

need not procure a certificate of public convenience or certificate of public

convenience and necessity provided it is either owned or operated by the National

Government or a GOCC. In the case of a concession agreement, the assets of the

 85

system are still owned by the State, although it is operated by a private entity.

Hence, in accordance with the exception provided by law, there is really no need to

procure a franchise.

The Efficiency of Contractual Regulation

Procuring a franchise is very tedious. Not only are there more than 200 minds that

are entitled to their own version of the franchise, there are also more than 200 bills

waiting to be passed within a span of three years, minus all the recesses and breaks.

To amplify the tediousness, there are two houses of congress in this country – the

so-called Senate and the House of Representatives – that have historically and

continuously been in constant deadlock.

A franchise, like all other bills, needs three readings to be passed. All

requirements of a constitutional law are required to be embodied in a franchise.

This burden is in addition to the very political issue of operating public utilities.

The Congress is now filled with leftists, who, with their anti-privatization ideals,

have taken the “pakikibaka” from the streets into the hallowed halls of Congress.

What they lack in numbers, they make up with influence. Certainly, any bill to be

passed, notwithstanding its urgency, can be delayed by any self-serving politician

in the Congress.

The foregoing picture is not very enticing to investors. Having a full-range

of options comprising of budding economies in Asia, the foregoing situation is

 86

simply too burdensome and time-consuming to deal with. And considering the

amount of investment that the private sector can infuse to the country’s chronically

fiscally inadequate economy, the opportunity is simply too necessary to forego. The

country being itself a budding economy in Southeast Asia, it needs all the

investments it can attract in order for its evolution into a power economy to happen.

On the other hand, the franchise is also important in order to regulate the rights and

obligations of the private investor so as to protect the interest of the consuming

public.

This problem can be addressed by contractual regulation. In regulation by

contract, the regulatory contract does not replace the regulator, but substantially

limits the regulator’s discretion. Without a franchise, a contract is entered into with

the private sector by a government agency or a GOCC that is duty bound by law to

protect the interest of the public. No longer is the need for a franchise mandatory

because the same purpose of regulation is achieved by the contract. In contractual

regulation, as with a franchise, the rights and obligations of the private entity are

set, it forces the regulator to set tariff based on specific formulas rather than just

general principles, the consequences of breach are made clear, and dispute

resolution procedures are agreed upon.

This way, it is relatively easier to invest as compared to when a legislative

franchise, which requires months or even years to be passed, is required. A

contract, on the other hand, having entrusted to the government agency or GOCC
 87

that public interest must always be paramount, safeguards the consuming public

and at the same time, is much more practical and economically sound in joining the

fierce competition of attracting investors.

 88

"Water is King, and he is Knight who uses it successfully

to make two blades grow where nature produced none."

-- J. S. Sherman, 1894.
Proceedings of the 2nd Annual Convention
of the Kansas Irrigation Association

"In an age when man has forgotten his origins

and is blind even to his most essential needs for survival,
water along with other resources
has become the victim of his indifference."

-- Rachel Carson

"Throughout the history of literature,

the guy who poisons the well
has been the worst of all villains..."

-- Author unknown
 89

Chapter 6
The MWSS Concession Agreements and their Implications to the
Concessionaires

Having shown that contracting out public service to a private entity through a

concession agreement without a legislative franchise, a certificate of public

convenience, or a certificate of public convenience and necessity, does not abrogate

any law, but in fact follows the intention of appropriate laws, the author now

examines the MWSS Concession Agreements (“Agreements”) with respect to

principal-agent contracted-out operations.

The Participation of the Private Sector

In 1997, the government corporation responsible for the water supply and sewerage

disposal in the greater Metro Manila area, the MWSS was successfully privatized

considering the water crisis being experienced by Metropolitan Manila.

Pursuant to Executive Order No. 311, the form of private sector

participation chosen was a 25-year concession agreement, which transfers to a

private contractor the overall responsibility for the operations, maintenance, and

investments in the water and sewerage system. The MWSS service area was

divided into the West and East Zones, and a concession was granted for each zone

in order to facilitate quasi-competition and to have a yardstick for regulation.

 90

It was also deemed desirable from the point of view of ensuring a stronger

financial resource base and technical capability to require foreign private

participation; though as the law stipulates, Filipinos must own at least 60% of

equity. Other requirements related to relevant experience and financial capability of

both local and foreign partners were also imposed for pre-qualification in the

bidding process to ensure a competent field of bidders. The Filipino partner must

have experience in one or more infrastructure business such as water supply,

communications, power, construction, or real estate which generates at least P1

billion (US$ 33 million) in revenue annually or involve P2 billion (US$ 67 million)

in equity. The foreign partner, in turn, should have experience in each of water

supply treatment and distribution; wastewater treatment and sewerage services;

metering, leakage control, and customer service and billing; and design and

construction management for system expansion. It should also have had two years

experience of supplying potable water and sewerage services to areas with at least

2.5 million population, one million connections, and 10,000 kms. of main pipes.

Financially, the foreign partner must be generating $30 million in annual revenues

from water and sewerage services and has investments of $ 1 billion in equity. Both

the local and foreign partners must each be a single company (not an association of

companies though more than one firm may be allowed through a special purpose

subsidiary).109

109
CRISTINA C. DAVID, MWSS PRIVATIZATION: IMPLICATIONS ON THE PRICE OF
WATER, THE POOR, AND THE ENVIRONMENT 9 (2000).
 91

Under a privatized MWSS, therefore, the operations, maintenance, and

investments for water, sewerage, and sanitation services become the responsibility

of the two private concessionaires for the West and East Zones, respectively. The

operations of commonly used facilities upstream from the service areas shall also

be undertaken by both concessionaires as a joint venture.110

A residual MWSS together with its Board is retained to facilitate the

exercise by the concessionaire of its agency powers; carry out accounting and

notification functions, administer domestic and foreign loans related to the existing

projects, and manage retained assets including the on-going development and

eventual operations of the Umiray-Angat Transbasin Project (UATP) and other

large-scale water supply expansion projects.111

In addition to the residual MWSS, a Regulatory Office (RO) is established

to monitor and enforce compliance by the concessionaires of the contractual

obligations under the concession agreement, implement rate adjustments, arrange

for public dissemination of relevant information, respond to complaints against

concessionaires, and prosecute or defend proceedings before the Appeals panel.112

The concession agreement specifies the transitional arrangements; the

service, financial, and other obligations of the concessionaires; the obligations of

MWSS including its residual functions together with the new Regulatory Office;

provisions for water charges, rate adjustments, dispute resolution; and other

110
Id.
111
Id.
112
Id. at 10.
 92

contract conditions. The transitional arrangements relate to transfer of employees,

liabilities/revenues, accounts receivables, facilities, existing projects, cash, and

marketable securities. More than a year after privatization, the shift from a public to

a private sector management of the MWSS which involved organizational

restructuring, reduction of the labor force, and resolution of the interconnection

charges among others, was implemented without any major difficulties.113

In terms of service obligations, the concessionaires are required to expand

coverage of water supply, sewerage, and sanitation services; provide 24-hour water

supply to all connections not later than June 2000 (and substitute alternative

supplies at standard rates if source is interrupted for more than 24 hours); maintain

water pressure at 16 psi by 2007 for all connections, and meet the national health

and environmental standards on quality of drinking water, wastewater discharge,

and industrial effluents.114

It should be emphasized that the coverage targets on water supply refer to

the population except those who already have piped water connection from a source

other than the MWSS system. Hence, the population obtaining water from their

own deepwells or from private waterworks located in areas where the MWSS water

service is unreliable and/or are not reached by the distribution network at the time

of their establishment are not covered by the service obligation. Also, the

Agreement does not specify whether or not the coverage includes commercial and

113
Id. at 11.
114
Id.
 93

industrial establishments.115

The financial obligations of the concessionaires pertain to the size of equity

investments, the performance bond, and the various fees designed to free the

national government from having to subsidize MWSS as it had done historically. In

terms of equity investments, each of the local and international partners is required

to maintain an equity share of 20% for the first five years and 10% thereafter. And

the initial cash equity investments shall be in the amount of P3 billion ($100

million) for the West Zone and P2 billion ($67 million) for the East Zone.116

Upon the takeover of the MWSS operations, a commencement fee of US$5

million was collected from each concessionaire. Revenues from this fee were used

to pay for the cost incurred in the process of privatization, including the technical

assistance contract with the International Finance Corporation (IFC).117

Annually, concession fees are to be paid to cover the amortization payments

of the local and foreign debts of the MWSS, and the costs of the operations of the

residual MWSS and its Regulatory Office. For the latter, each concessionaire shall

contribute P100 million for a total of P200 million which will be distributed about

equally between the Regulatory Office and the residual MWSS.118

The Agreement provides for water tariff rate adjustments from time to time,

subject to the MWSS’s Charter limitation on its rate of return which is equal to

115
Id. at 12.
116
Id. at 14.
117
Id. at 15.
118
Id.
 94

12% of the book value of its assets. That limitation is essentially redundant because

the Agreement’s effective cap on the concessionaire’s rate of return on its own

investments is reflected in the Appropriate Discount Rate (ADR).119

From the discussion in the preceding chapter, it was explained by the author

that the President was empowered to contract-out the functions of MWSS to private

operators. The concession agreements entered into between the government and the

private sector serve as the law that binds all parties.

Concession Fact File120

Expansion mandate
o Expansion mandates for water and sewerage specified in terms of
population coverage targets for each municipality, specified for each five
year period.
o Sewerage targets not as high as for water; new infrastructure will gradually
replace septic tanks.

Standards
o Water quality must conform to the National Standards for Drinking Water
o Water reliability must be at 24 hours/day by June 2000
o Detailed standards of water pressure and flow

Tariffs and connection fees

o Progressive tariff structure
o Tariffs can be renegotiated every five years; annual adjustments for
inflation and exceptional events.

119
Id. at 16.
120
Shane Rosenthal, The Manila Water Concessions and their Impact on the Poor (2001), available
online URL www.yale.edu/hixon/research/pdf/SRosenthal_Manila.pdf (Accessed 02 June 2007).
 95

o Maximum connection fees of $106 each for water and sewerage;

installment plans permitted

Financial
o 60% of equity must remain in Filipino ownership
o Concessionaires assume responsibility for 90% of MWSS’s debt burden

Labor
o Comprehensive labor transition package under which:
o all employees who are rehired have a 6 month probation period
o those who fail the probationary period receive retirement pay and
other benefits
o all employees are entitled to stock options
o existing labor unions are automatically recognized

Other
o New Regulatory Office to monitor concessionaires’ performance, arrange
regular independent technical and financial audits and respond to consumer
complaints
o Guarantee of raw water availability to the operator
o Appeals panel to settle unresolved disputes

MWSS Concessionaires: Agents or Contractors?

The Agreement provides that the concessionaires are to be considered as agents or

contractors. A perusal of the Agreement would show that the nomenclature used

tend to pertain to the concessionaires as agents or contractors. Just when exactly a

concessionaire acts as an agent or a contractor is not clear.

Here are the provisions pertaining to the concessionaires as agents or

contractors:
 96

WHEREAS, MWSS has determined to grant concessions to private

sector corporations, at least 60% of the outstanding capital stock of which is
owned and controlled by Philippine nationals, which shall act as contractors to
perform certain functions, and as agents for the exercise of certain rights and
powers, of MWSS under its Charter, operate the system of waterworks and
sewerage services referred to in the Charter;
xxx
2.1. Grant of Concession. On the terms and subject to the conditions set forth
herein, MWSS hereby grants to the Concessionaire, as contractor to perform
certain functions and as agent for the exercise of rights and powers under the
Charter, the sole right to manage, operate, repair, decommission and refurbish the
Facilities in the Service Area, including the right to bill and collect water and
sewerage services supplied in the Service Area (the “Concession”).
xxx
7.2. Easements, Eminent Domain, Right of Way and Similar Powers. MWSS
hereby appoints the Concessionaire as its agent and representative, for
purposes of, among others, Section 3 (K) of the Charter in its name, place and
stead, to apply for and exercise its easement, eminent domain, right of way and
similar rights and powers given to MWSS under its Charter in connection with
infrastructure projects and works undertaken relating to the Concession by the
Concessionaire in the Service Area pursuant to this Agreement. The
Concessionaire shall be solely responsible for the payment of any compensation to
third parties occasioned by the exercise of such rights and powers.

The whereas clause and Section 2.1 merely pertain to a general grant of

powers to the concessionaires as agents. It is even unclear when the concessionaires

act as agents or contractors. It can be gleaned from the foregoing provisions that the

only particular grant of agency is that in Section 7.2 pertaining to Section 3(k) of

the MWSS Charter, which grants MWSS the power –

To construct works across, over, through and/or alongside, any stream,

water-course, canal, ditch, flume, street, avenue, highway or railway, whether
public or private, as the location of said works may require: Provided, That, such
works be constructed in such manner as to afford security to life and property and
so as not to obstruct traffic: Provided, further, That the stream, water-course,
canal, ditch, flume, street, avenue, highway or railway so crossed or intersected be
restored without unnecessary delay to its former state. Any person or entity whose
right may be prejudice by said works shall not obstruct the same; however, he
shall be given reasonable notice before the construction and shall be paid just
compensation. The System shall likewise have the right to locate, construct and
maintain such works on, over and/or through any street, avenue, or highway and
land and/or real rights of the Republic of the Philippines or any of its branches,
 97

agencies and political subdivisions upon due notice to the office, or entity
concerned, subject solely to the condition that the street, avenue, or highway in
which said works are constructed be restored without unnecessary delay to its
former state unless otherwise agreed upon by the System and the office or entity
concerned.

Section 8.1 of the Agreement also maintains the agency powers of

the concessionaires. It provides:

MWSS shall retain, among others, the following operational

responsibilities during the period of the Concession (other than the responsibilities
assigned to the Regulatory Office):

1. facilitating the exercise by the Concessionaire of its agency

powers, upon appropriate notification to MWSS by the
Concessionaire as provided in Sections 7.1 and 7.2 above; xxx

Section 7.1, as mentioned in 8.1, pertains to the obligation of MWSS to

cooperate with the concessionaires. It provides:

Subject to the requirements of the Charter, MWSS shall, upon request of

the Concessionaire, cooperate in all reasonable ways to facilitate the
Concessionaire’s carrying out of its responsibilities under the Concession.
Pursuant to the authority given to MWSS by Section 3(h) of the Charter, and
subject to the restrictions contained in Section 12 of the Charter, this cooperation
shall include, but not be limited to, cooperation with actions undertaken by the
Concessionaire to implement changes to the Standard Rates for water and
sewerage services as instructed by the Regulatory Office or, as appropriate, by the
Appeals Panel.

The cooperation to be rendered by MWSS to the Concessionaire shall not require

MWSS or any of its affiliates to finance (or guarantee the financing of) any
expenditure required in connection with the Concession, or to undertake any
liability in favor of a third party other than those expressly provided for in this
Agreement.

The above provisions recognize the powers specifically delegated to the

concessionaires as agents of MWSS. These are: 1.) the powers of eminent domain,

easements, right of way and other similar powers to construct works across, over,
 98

through and/or alongside, any stream, water-course, canal, ditch, flume, street,

avenue, highway or railway, whether public or private, as the location of said

works may require; and 2.) the power to implement changes to the Standard Rates

for water and sewerage services as instructed by the Regulatory Office or, as

appropriate, by the Appeals Panel.

It is a basic tenet in the law on obligations and contracts that the form of a

contract does not determine its legal consequences. In other words, it is the law that

determines what kind of contract has been entered into by the parties – not the form

the parties chose it would be. The parties in the Agreement may have chosen the

terms “agent” and “contractor” in describing the relationship between MWSS and

the concessionaires. Nevertheless, such terms have been proven incompatible with

the terms the Agreement provides.

It is worth taking note of the fact that the power of eminent domain has

been delegated to the Concessionaires. This is a problematic stipulation given the

fact that the power of eminent domain as itself been delegated by the Legislature to

the MWSS. In other words, the power of eminent domain that is delegated by the

MWSS to the Concessionaires is already delegated power in itself. This runs

counter to the doctrine of non-delegability of delegated powers. On the other hand,

whether the Legislature, through the MWSS Charter, has allowed MWSS to further

delegate its power of eminent domain to other entities, is altogether a separate

discussion, beyond the scope of this study.

 99

The Concessionaires as Contractors,

A Vague Description

Section 2.1 provides that the concessionaires shall act as contractors to perform

“certain functions” and as agents “for the exercise of rights and powers under the

MWSS Charter.” The latter obligation (as agents) is clearly provided in Section 3

of the MWSS Charter. However, the former (as contractors) is not very clear. It can

be argued that the concessionaires, aside from performance of rights and powers

granted by the MWSS Charter, shall be considered as contractors. On the other

hand, the rights and powers (from Section 3 of the MWSS Charter), as already

enumerated in Chapter 5 of this paper, granted by the MWSS Charter are very

broad. The grant encompasses functions of a contractor. For instance, Section 3(f)

provides that the MWSS is empowered to construct, maintain, and operate dams,

reservoirs, conduits, aqueducts, tunnels, purification plants, water mains, pipes, fire

hydrants, pumping stations, machineries and other waterworks for the purpose of

supplying water to the inhabitants of its territory, for domestic and other purposes;

and to purify, regulate and control the use, as well as prevent the wastage of water.

Section 3(i) provides that it is also empowered to construct, develop, maintain

and operate such artesian wells and springs as may be needed in its operation

within its territory.

The distinction when the concessionaires shall be considered as agents and

contractors is important because, aside from the obvious difference in terminology

 100

and definition, these legal terms bring about different legal consequences. An agent

represents the principal while an independent contractor is employed by the

employer. An agent acts under the control and instructions of the principal, while

an independent contractor acts according to his own method. Lastly, a principal is

liable for the torts committed by an agent within the scope of his authority, while

an employer is not liable for the torts committed by an independent contractor.

With a concession, the government grants to a private firm or consortium

the exclusive rights to operate, maintain and manage the entire system for an

extended period of time. The basic system is still owned by the public, but the

private concessionaire owns all improvements and extensions. The operating

requirements placed on the private firm are contained in a concession agreement

that details all of the performance expectations that need to be met in order to

maintain the concession in effect. The concessionaire sets the rates for the service

under the regulatory requirements of the government. Unless neutral, informed

regulation is provided, a concession arrangement will not work. For the rights to

operate the system and reap the profits from such operations, the private firm may

be required to pay an initial and/or annual concession fee to the government, and to

commit to certain levels of investment over the course of the concession period.

The concession yields total operational responsibility to the private consortium for

the length of the concession without transferring or selling the assets.121

121
Seader, supra note 46.
 101

Under the premise that the term “contractor” means an “independent

contractor,” it is hard to imagine that a concessionaire is a contractor because that

would mean that the basis of the agreement is employment of service. It is a

concession agreement and such agreement has a description entirely alien with a

contract for the employment of service. Moreover, it is also not a lease of work or

service because the services to be performed were not ministerial in character. The

matters involved in the Agreement are not of mere manual or mechanical

execution. It is a commercial transaction; a business imbued with public interest.

On the other hand, the term “contractor” may also mean a “contracting

party.” This would mean that the MWSS Concessionaires, being parties to the

Concession Agreements, are contractors in the sense that there are obligations

required of them to perform as provided in the Concession Agreements.

Whatever the real intention is, the circumstances cannot escape the reality

that the use of such technical term may brew future controversies.

MWSS Concessionaires,
Not Acting as Agents

Article 1868 provides that “by the contract of agency a person binds himself to

render some service or to do something in representation or on behalf of another,

with the consent or authority of the latter.” Interestingly, agency is also quite

beyond the realm of a concession agreement. Article 1891 of the Civil Code
 102

provides that “every agent is bound to render an account of his transactions and to

deliver to the principal whatever he may have received by virtue of the agency even

though it may not be owing to the principal.” The Concession Agreement, on the

other hand, seems to be in conflict with this Civil Code provision.

The intention of the Agreement is to allow the concessionaires to reap

profits, provided that the rate of net return shall not exceed twelve per centum

(12%), on a rate base composed of the sum of its assets in operation as revalued

from time to time plus two months' operating capital. Article 9.3.4 provides:

The maximum rates chargeable by the Concessionaire for water and

sewage services hereunder applicable to the period through the Second Rate
Rebasing Date (subject to interim adjustments as described in this Article 9) are
set out in Schedule 5 to this Agreement. It is the intention of the parties that, from
and after the Second Rate Rebasing Date, the rates for water and sewerage
services provided by the Concessionaire shall be set at level that will permit
the Concessionaire to recover over the 25-year term of the Concession (net of
any grants from third parties and any possible Expiration Payment) operating,
capital maintenance and investment expenditures efficiently and prudently
incurred, Philippine business taxes and payments corresponding to debt service on
the MWSS Loans and Concessionaire Loans incurred to finance such
expenditures, and to earn a rate of return (referred to herein as the “Appropriate
Discount Rate”) on these expenditures for the remaining term of the Concession in
line with the rates of return being allowed from time to time to operators of long-
term infrastructure concession arrangements in other countries having a credit
standing similar to that of the Philippines. The parties further agree that the
maximum rates chargeable for such water and sewerage services shall be
subject to general adjustment at five-year intervals commencing on the
second Rate Rebasing Date; provided that the Regulatory Office may exercise its
discretion to make a general adjustment of such rates on the First Rate Rebasing
Date, but, if it does not do so, the Regulatory Office shall implement the
assumptions set out in paragraph 2 of Exhibit E on the fifth anniversary of the
Commencement Date. It is understood that the determination of the appropriate
rate of return will be made separately at the time of each generalized rate rebasing.

It is also the intention of the parties that rates be set in such a way as to
provide appropriate efficiency incentives to the Concessionaire, with a view
toward benefiting both the Customers and the Concessionaire.

The Regulatory Office shall determine the Rebasing Adjustment to be used for the
purposes of calculating the Rates Limit for each of the five Charging Years of
 103

each Rebasing Period, in accordance with the provisions set forth below.

The foregoing makes it clear that the concession agreement allows the

concessionaires to reap profits for themselves. In an agency contract, however, no

profit is allowed to the agent. In addition to making an account of the agent’s

transaction, everything that the agent has received by virtue of the agency contract

must be turned over to the principal. It is then up to the principal the amount of

compensation that will be awarded to the agent.

The closest provision in the Agreement that requires the concessionaires to

render an account is provided in Article 9.4.1:

Not later than March 31 preceding each Rate Rebasing Date, the
Concessionaire shall supply the Regulatory Office with information on its
Expenditures, Receipts, Cash Flows, Opening Cash Position and Future Cash
Flows in a form and manner, and covering such time periods, as the Regulatory
Office may determine.
The Concessionaire shall also provide such other information as the Regulatory
Office may reasonable request or as the Concessionaire may wish to provide.

In other words, there is no clear provision in the Agreement that mandates

the supposed agents, the concessionaires, to turn-over returns to the supposed

principal, MWSS.

The Agreement also provides that the concessionaires are responsible for all

taxes from any income associated with the Concession arising on or after the

commencement date. It says:

Subject to the Undertaking Letter, the Concessionaire shall be

responsible for all income and withholding taxes and other forms of taxes
 104

arising from payments by Customers for services rendered on and after the
Commencement Date and from any other income associated with the
Concession arising on or after the Commencement Date. The Concessionaire
shall be responsible for the payment of all documentary stamp taxes payable in
connection with the execution of this Agreement and any related agreements or
instruments; all customs, import duties and other taxes or assessments relating to
the importation into the Philippines of plant and equipment to be used in
connection with the Concession; and all local transfer taxes on property acquired
through the exercise of rights pursuant to Section 7.2. In addition, the
Concessionaire shall pay, for and on behalf of MWSS, or shall reimburse MWSS
within 10 days of demand therefor, any real property taxes and other taxes or
assessments payable by MWSS on MWSS property or assets in the Service Area
used for the supply of water and sewerage services.

If the income really pertains to the principal, it is illogical why the income

taxes must be shouldered by the agent. It is therefore clear that the returns to be

reaped from the Agreement shall belong to the concessionaires. This kind of

arrangement is incompatible with an agency agreement because, unlike what the

Agreement mandates, an agent must deliver all the returns to its principal – the

income belongs to the principal, not to the agent.

An agency contract is also incompatible with the Agreement when Article

1912 of the Civil Code is analyzed in the context of the Agreement. It provides:

Article 1912. The principal must advance to the agent, should the
latter so request, the sums necessary for the execution of the agency.
Should the agent have advanced them, the principal must reimburse him
therefore, even if the business or undertaking was not successful, provided the
agent is free from all fault.
The reimbursement shall include interest on the sums advanced, from the day on
which the advance was made.”

It is clear from Article 1912 that in an agency agreement, the business must

pertain to the principal, and not to the agent. The principal must finance the

business through the agent. The agent must reimburse any advances made in the
 105

performance of the agency agreement.

In the case of the Agreement, it shows that the concessionaires are the ones

who are supposed to finance all the operations, management, and repairs of the

facilities of the MWSS waterworks system. In fact, the concessionaires are required

to pay a commencement fee and a concession fee. The pertinent provisions are as

follows:

3.7 Commencement Fee. The Concessionaire shall pay a

commencement fee of U.S. $5 Million to MWSS on the Commencement Date
xxx
6.4 Concession Fee. By January 15 of each calendar year, MWSS shall provide
the Concessionaire with a schedule of all anticipated amounts due in
connection with the Concession Fee payable during that year, as described in (a)
and (b) below:

(a) Not later than 14 days prior to the date on which any scheduled
payment of principal, interest, fees or other amount is due under
an MWSS Loan, MWSS shall notify the Concessionaire in
writing of the total amount due on that payment date and of the
Peso equivalent thereof (the “Peso Equivalent”) calculated at the
then prevailing exchange rate. Not later than one business day
prior to each such payment date, the Concessionaire shall remit
to such account as MWSS shall instruct an amount, in Pesos,
exclusive of any penalties or default interest charges not
attributable to a late payment of the Concession Fee by the
Concessionaire (each such payment being referred to herein as a
“Concession Fee”), equal to the sum of:

(i) 10% of the aggregate Peso Equivalent due

under any MWSS Loan which has been
disbursed prior to the Commencement Date
(including MWSS Loans for Existing Projects
and the UATP project) on the relevant
payment date set forth on Schedule 8; plus

(ii) 10% of the aggregate Peso Equivalent due

under any MWSS Loan designated for the
UATP project which has not been disbursed
prior to the Commencement Date on the
relevant payment date set forth on Schedule 8;
plus
 106

(iii) 10% of the Local Component costs and Cost

Overruns related to the UATP project in
accordance with Schedule 9; plus

(iv) 100% of the aggregate Peso Equivalent due

under any MWSS Loan designated for
Existing Projects, which have not been
disbursed prior to the Commencement Date
and have been either awarded to third party
bidders in accordance with Section 6.13.1(i)
or been elected by the Concessionaire for
continuation in accordance with Section
6.13.1(ii); plus

(v) 100% of the Local Component costs and Cost

Overruns related to Existing Projects in
accordance with Schedule 9.

(b) Not later than five days after the Commencement Date, the
Concessionaire shall pay to MWSS the amount of 50 million
Pesos, which MWSS shall use and allocate in accordance with
Section 11.2 for the establishment and budget of the Regulatory
Office during 1997. In addition, the Concessionaire shall pay
to MWSS on the first business day of January of each year
thereafter an amount equal to one-half of the annual budget
for MWSS for that year, provided that such annual budget
shall not for any year exceed million Pesos, subject to annual
CPI adjustments. MWSS may request adjustments to the level
of the annual contribution of the Concessionaire provided in this
Section 6.4(b). If the Concessionaire objects to any such
requested revision, it may refer the matter to the Appeals Panel.

Each Concession Fee shall be treated as an Expenditure of the Concession and the
Concessionaire’s payment obligation in respect thereof shall rank at least
pari passu with its unsecured payment obligations under all other debt
instruments that may be executed by the Concessionaire. In the event the
Concessionaire does not make a timely payment of a Concession Fee, the U.S.
dollar equivalent of such unpaid amount may be drawable under the
Performance Bond in accordance with Section 6.9 below.

The intention is that the concessionaires are the ones who are supposed to

finance all the operations, management, and repairs of the facilities of the MWSS

waterworks system is exemplified by the fact that the concessionaires are mandated

in accordance with Article 6.11 of the Agreement, unless waived by the Regulatory
 107

office, to be fiscally adequate. It provides:

6.5.1 General. During the term of the Concession, the Concessionaire

shall:

(i) operate, maintain, renew and, as appropriate, decommission Facilities in

a manner consistent with the National Building Standards and best
industrial practices so that, at all times, the water and sewerage system in
the Service Area is capable of meting the Service Obligations (as such
obligations may be revised from time to time by the Regulatory Office
following consultation with the Concessionaire);

(ii) repair and correct, on a priority basis, any defect in the Facilities that
could adversely affect public health or welfare, or cause damage to
persons or third-party property; and

(iii) ensure that at all times the Concessionaire has sufficient financial,
material and personnel resources available to it to meet its
obligations under this Agreement.

xxx

6.11. Equity Capital. Unless waived in writing by the Regulatory

Office:

(i) until December 31,2002 (the first Rate Rebasing Date), the International
Water Operator and the Sponsor shall each (directly or through a
subsidiary that is at least 51% owned, and controlled, by the International
Water Operator or the Sponsor, respectively) at least 20% of the
outstanding capital stock of the Concessionaire. After the first Rate
Rebasing Date and throughout the Concession, the International Water
Operator and the Sponsor shall each own (directly or through a
subsidiary that is at least 51% owned, and controlled, by the International
Water Operator or the Sponsor, respectively) at least 10% of the
outstanding capital stock of the Concessionaire;

(ii) the Concessionaire shall have an equity paid-in cash capital of not
less than P 1 billion at the Commencement Date and by the first
anniversary of the Commencement Date shall have an equity paid-in
cash capital of not less than P 2 billion; and

(iii) the Concessionaire shall consider the feasibility of making a public

offering of a portion of its equity in the Philippines with a view toward
broadening the ownership base of the Concessionaire.

The foregoing provisions are glaringly contrary to the basic laws of agency.

However, even assuming that the foregoing provisions in the Agreement do not
 108

violate the laws on agency, another reason that makes the law on agency

incompatible with the Agreement is the fact that the concessionaires are public

utilities themselves.

The MWSS Concessionaires as Public Utilities

Under the law on agency, an agent cannot be personally liable for acts done

in accordance with the authority vested by the principal. The following articles are

pertinent:

“Article 1897. The agent who acts as such is not personally liable to the party
with whom he contracts, unless he expressly binds himself or exceeds the
limits of his authority without giving such party sufficient notice of his powers.”

“Article 1899. If the duly authorized agent acts in accordance with the orders of
the principal, the latter cannot set up the ignorance of the agent as to
circumstances whereof he himself was, or ought to have been, aware.”

“Article 1913. The principal must also indemnify the agent for all the damages
which the executive of the agency may have caused the latter, without fault or
negligence on his part.”

In case the concessionaires are agents of MWSS, which is the public utility,

are the concessionaires personally liable for acts done within the scope of the

Agreement, but in violation of laws binding among public utilities? Yes, because

the concessionaires are public utilities themselves.

The concessionaires cannot put the blame on the public utility, MWSS, and

escape the consequences attributed to public utilities by arguing that they are mere

agents of the public utility, and not the public utilities themselves. Assuming
 109

arguendo that they are agents, the fact remains that they are public utilities and

should therefore be within the ambit of laws governing public utilities. They cannot

hide behind the “agency agreement” and escape the consequences of being a public

utility. In other words, the liability consequences of the concessionaires as agents in

one hand and as public utilities on the other hand, are totally incompatible.

A Public Utility: Without a Concrete Definition

under Philippine and American Jurisprudence

Jurisprudence from the United States has no specific definition of a public

utility. The courts have not attempted to formulate an abstract definition. They

prefer to determine whether or not a particular business is imbued with public

interest in a case to case basis. Justice Brandeis, in his dissent in New State Ice Co.

v. Liebmann122, has attempted to define what a public utility is, when he said:

The public’s concern about a particular business may be so pervasive and

varied as to require constant detailed supervision and a very high degree of
regulation. Where this is true, it is common to speak of the business as being a
“public” one, although it is privately owned. It is to such businesses that the
designation “public utility” is commonly applied; or they are spoken of as
“affected with public interest.

Under this definition, privately owned enterprises such as gas, electric,

water, telephone, road, and railway companies clearly are public utilities.

In the 1936 case of North Negros Sugar Co. v. Hidalgo123, the Supreme

122
New State Ice Co. v. Liebmann, 285 US 262 at 301 [1932], Justice Brandeis’ dissent.
123
North Negros Sugar Co. v. Hidalgo, 63 Phil. 664, 691 (1936).
 110

Court held that the definition of a public utility is not confined to any legislative

definition. Rather, it depends on the nature of the business – whether it is a private

property affected with public interest. It held that when private property is devoted

to public use in the business of a public utility, certain reciprocal rights and duties

are raised by implication of law between the utility and the public it undertakes to

serve, and no contract between them is necessary to give rise thereto. It said:

The circumstance that the road in question does not properly fall within
the definition of a public utility provided in Act No. 3108, does not divest it of this
character: " * * whether or not a given business, industry, or service is a public
utility does not depend upon legislative definition, but upon the nature of the
business or service rendered, and an attempt to declare a company or enterprise
to be a public utility, where it is inherently not such, is, by virtue of the guaranties
of the federal constitution, void wherever it interferes with private rights of
property or contract. So a legislature cannot by mere flat or regulatory order
convert a private business or enterprise into a public utility, and the question
whether or not a particular company or service is a public utility is a judicial one,
and must be determined as such by a court of competent jurisdiction.
…
The road in question being a public utility, or, to be more exact, a private
property affected with a public interest, it is not lawful to make arbitrary
exceptions with respect to its use and enjoyment. "Duty to Serve Without
Discrimination.-A public utility is obligated by the nature of its business to furnish
its service or commodity to the general public, or that part of the public which it
has undertaken to serve, without arbitrary discrimination, and it must, to the extent
of its capacity, serve all who apply, on equal terms and without distinction, so far
as they are in the same class and similarly situated. Accordingly, a utility must act
toward all members of the public impartially, and treat all alike; and it cannot
arbitrarily select the persons for whom it will perform its service or furnish its
commodity, nor refuse to one a favor or privilege it has extended to another, since
the term 'public utility' precludes the idea of service which is private in its nature
and is not to be obtained by the public. Such duties arise from the public nature of
a utility, and statutes providing affirmatively therefore are merely declaratory of
the common law.

Seven days after the promulgation of the Negros case, Commonwealth Act

No. 146, more commonly known as The Public Service Act, was passed into law. It

defined the powers of the Public Service Commission when it provided that the
 111

Commission shall have jurisdiction, supervision, and control over all public

services and their franchises, equipment, and other properties, and in the exercise of

its authority, it shall have the necessary powers and the aid of the public force. The

law sought to regulate businesses that are imbued with public interest, particularly

those engaged in public service. It provides that no public service shall operate in

the Philippines without possessing a valid and subsisting certificate from the Public

Service Commission known as "certificate of public convenience," or "certificate of

public convenience and necessity," as the case may be, to the effect that the

operation of said service and the authorization to do business will promote the

public interests in a proper and suitable manner. It defined public service as:

… including every person that now or hereafter may own, operate,

manage, or control in the Philippines, for hire or compensation, with general or
limited clientele, whether permanent, occasional or accidental, and done for
general business purposes, any common carrier, railroad, street railway, traction
railway, sub-way motor vehicle, either for freight or passenger, or both with or
without fixed route and whether may be its classification, freight or carrier service
of any class, express service, steamboat or steamship line, pontines, ferries, and
water craft, engaged in the transportation of passengers or freight or both,
shipyard, marine railways, marine repair shop, [warehouse] wharf or dock, ice
plant, ice-refrigeration plant, canal, irrigation system, gas, electric light, heat and
power water supply and power, petroleum, sewerage system, wire or wireless
communications system, wire or wireless broadcasting stations and other similar
public services: Provided, however, That a person engaged in agriculture, not
otherwise a public service, who owns a motor vehicle and uses it personally
and/or enters into a special contract whereby said motor vehicle is offered for hire
or compensation to a third party or third parties engaged in agriculture, not itself
or themselves a public service, for operation by the latter for a limited time and for
a specific purpose directly connected with the cultivation of his or their farm, the
transportation, processing, and marketing of agricultural products of such third
party or third parties shall not be considered as operating a public service for the
purposes of this Act.

In 2003, notwithstanding the definition of a public service as provided by

the Public Service Act, the Supreme Court in JG Summit Holdings, Inc. v. Court of
 112

Appeals124, in holding that by nature a shipyard is not a public utility, reiterated the

definition of a public utility, and in addition to that, explained the difference

between a “public service” and a public utility. It said:

A “public utility” is a business or service engaged in regularly supplying

the public with some commodity or service of public consequence such as
electricity, gas, water, transportation, telephone or telegraph service. To constitute
a public utility, the facility must be necessary for the maintenance of life and
occupation of the residents. However, the fact that a business offers services or
goods that promote public good and serve the interest of the public does not
automatically make it a public utility. Public use is not synonymous with public
interest. As its name indicates, the term “public utility” implies public use and
service to the public. The principal determinative characteristic of a public
utility is that of service to, or readiness to serve, an indefinite public or portion of
the public as such which has a legal right to demand and receive its services or
commodities. Stated otherwise, the owner or person in control of a public utility
must have devoted it to such use that the public generally or that part of the public
which has been served and has accepted the service, has the right to demand that
use or service so long as it is continued, with reasonable efficiency and under
proper charges. Unlike a private enterprise which independently determines whom
it will serve, a “public utility holds out generally and may not refuse legitimate
demand for service.

The MWSS Concessionaires: Public Utilities in Line

with the Criteria Set Under Philippine Jurisprudence

The issue of whether an enterprise is considered a public utility has been

resolved by the Supreme Court as early as 02 March 1923 in the case of Iloilo Ice

and Cold Storage Company v. Public Utility Board125 when it enunciated that:

The term "public utility," in this jurisdiction, includes every individual,

copartnership, association, corporation, or joint stock company that now or
hereafter may own, operate, manage, or control, within the Philippine Islands, any
ice, refrigeration, cold storage system, plant, or equipment, for public use.
…
The criterion by which to judge of the character of the use is whether the public

124
JG Summit Holdings, Inc. v. Court of Appeals, 412 SCRA 10, 20-21 (2003).
125
Iloilo Ice and Cold Storage Company v. Public Utility Board, 44 Phil. 551, 556-557, 563 (1923).
 113

may enjoy it by right or only by permission. (US v. Piaco, 40 Phil. 853 [1920])
…
The essential feature of a public use is that it is not confined to privileged
individuals, but is open to the indefinite public. (Thayer and Thayer v. California
Development Company, 164 Cal. 117 [1912])
…
The use is public if all persons have the right to the use under the same
circumstances. (Fallbrook Irrigation District v. Bradley, 164 US 161 [1896])
…
If an individual, copartnership, association, corporation, or joint stock company
does, in truth, sell ice to all persons seeking its services, it is a public utility. But
If, an the other hand, the individual, copartnership, association, corporation, or
joint stock company was organized solely for particular persons under strictly
private contracts and never was devoted by its owners to public use, it could not
be held to be a public utility without violating the due process of law clause of the
Constitution. (Producers Transportation Co. vs. Railroad Commission, 251 US
228 [1920])

In the foregoing case, the petitioner, the Iloilo Ice and Cold Storage

Company, is a corporation organized under the laws of the Philippine Islands in

1908, with, a capital stock of P60,000. Continuously since that date, the company

has maintained and operated a plant for the manufacture and sale of ice in the City

of Iloilo. At the time its operations were started, two additional ice plants were

operating in Iloilo. Subsequently, however, the other plants ceased to operate, so

that the petitioner now has no competitor in the field.

Since 1908, the business of the Iloilo Ice and Cold Storage Company,

according to its managing director and treasurer, has been carried on with selected

customers only. Preference, however, is always given to hospitals, the requests of

practicing physicians, and the needs of sick persons.

The Supreme Court went on in saying that:

 114

The original public utility law, Act No. 2307, in its section 14, in
speaking of the jurisdiction of the Board of Public Utility Commissioners, and in
defining the term of "public utility," failed to include ice, refrigeration, and cold
storage plants. This deficiency was, however, remedied by Act No. 2694, enacted
in 1917, which amended section 14 of Act No. 2307, to read as follows:
" * * * The term 'Public utility' is hereby defined to include every
individual, copartnership, association, corporation or joint stock company,
whether domestic or foreign, their lessees, trustees or receivers appointed by any
court whatsoever, or any municipality, province or other department of the
Government of the Philippine Islands, that now or hereafter may own, operate,
manage or control within the Philippine Islands any common carrier, railroad,
street railway, traction railway, steamboat or steamship line, small water craft,
such as bancas, virais, lorchas, and others, engaged in the transportation of
passengers and cargo, line of freight and passenger automobiles, shipyard, marine
railway, marine repair shop, ferry, freight or any other car service, public
warehouse, public wharf or dock not under the jurisdiction of the Insular Collector
of Customs, ice, refrigeration, cold storage, canal, irrigation, express, subway,
pipe line, gas, electric light, heat, power, water, oil, sewer, telephone, wire or
wireless telegraph system, plant or equipment, for public use: Provided, That the
Commission or Commissioner shall have no jurisdiction over ice plants, cold
storage plants, or any other kind of public utilities operated by the Federal
Government exclusively for its own and not for public use."

‘Public use' is the same as 'use by the public.' The essential feature of the

public use is that it is not confined to privileged individuals, but is open to the

indefinite public. It is this indefinite or unrestricted quality that gives it its public

character. In determining whether a use is public, we must look not only to the

character of the business to be done, but also to the proposed mode of doing it. If

the use is merely optional with the owners, or the public benefit is merely

incidental, it is not a public use, authorizing the exercise of the jurisdiction of the

public utility commission. There must be, in general, a right which the law compels

the owner to give to the general public. It is not enough that the general prosperity

of the public is promoted. Public use is not synonymous with public interest. The

true criterion by which to judge the character of the use is whether the public may
 115

enjoy it by right or only by permission.126

The Supreme Court held that the Iloilo Ice and Cold Storage Company is

not a public utility because its services did not pass the criterion of “public use” as

its operations were merely carried on for selected customers.

On the other hand, the MWSS Concession Agreements (“Agreements”)

provide that the concessionaires are required to provide water supply services to all

existing customers in their respective services areas. They, in fact, are mandated to

make a connection as soon as reasonably practicable. The following provisions of

the Agreement aptly meet the abovementioned criteria:

5.1.1. Water Supply; New Connections. The Concessionaire shall

offer water supply services to all existing Customers in the Service Area on
the Commencement Date and, in addition, the Concessionaire shall make at least
sufficient connections (net of any disconnections) to meet the coverage target
percentages of the population in the designated municipality at the time of the
target (excluding users who obtain water from a legal source other than the
MWSS system) set out in Schedule 2 hereto by the dates specified in that
Schedule. Further, the Concessionaire shall provide data and supporting evidence
to the Regulatory Office that demonstrates compliance with such coverage targets,
along with the method by which such compliance was calculated, prior to each
Rebasing Date in accordance with Section 9.4.1.
5.1.3 Obligation to Make Connections to a Water Main. Upon
request from the owner or occupant of premises located in the Service Area for
a connection to a water main, the Concessionaire shall make such a connection
as soon as reasonably practicable. For such connection to a water main located
less than 25 meters from the connection point for such main, the Customer shall
pay the connection fee set out in Section 9.5(i). For all other connections, the
Customer shall pay a fee determined in accordance with Section 9.5 (ii).
5.2.1 Supply of Sewerage Service; New Connections. The
Concessionaire shall offer to supply sewerage services to all Customers in the
Service Area who have sewerage connections on the date hereof for domestic
sewage and industrial effluents compatible with available treatment processes and,
in addition, the Concessionaire shall meet the coverage target percentages of the
total population in the designated municipality connected to the Concessionaire’s
water system at the time of the targets set out in Schedule 3 below by the dates

126
US v. Piaco, 40 Phil. 853, 856 (1920).
 116

specified in that Schedule.

5.2.2 Obligation to Make connections to a Public Sewer. Upon
request from the owner or occupant of premises located in the Service Area for
a connection to a public sewer, the Concessionaire shall make such a
connection as soon as reasonably practicable. For such connection to a public
sewer located less than 25 meters from the connection point, the Customer shall
pay the connection fee set out in Section 9.5 (i). For all other connections, the
Customer shall pay a fee determined in accordance with Section 9.5(ii).

The foregoing provisions show that the use of the services provided by the

concessionaires is public because all persons under the same circumstances have

the right to avail the services of the concessionaires. The concessionaires are

required to offer water supply and sewerage services to all the customers within the

service area. In fact, they are required to make a connection as soon as practicable

upon request from an owner or occupant of the premises located in the service area.

This is tantamount to a demandable right, only qualified by the phrase “as soon as

reasonably practicable.”

A “public utility” is “a business or service engaged in regularly supplying

the public with some commodity or service of public consequence such as

electricity, gas, water, transportation, telephone or telegraph service.”127 Regular

supply of water is required by the Agreement as provided in Article 5.1.2. Using

the above definition of a public utility, it is obvious that the business of the

concessionaires, by regularly supplying the public with water service, makes them

a public utility. Article 5.1.2 provides:

As soon as practicable, but in any event not later than June 30, 2000, the

127
GENEROSO O. ALMARIO, TRANSPORTATION AND PUBLIC SERVICE LAW 267 (1977)
citing 73 CJS 990-991.
 117

Concessionaire shall ensure the availability of an uninterrupted 24 hour

supply of water to all connected Customers in the Service Area, subject to
interruptions resulting from the temporary failure of items of the Facilities (where
the Concessionaire acts promptly to remedy such failure) or required for the repair
or construction of the Facilities where such repairs or construction cannot be
performed without interruption to the supply of water. At all times, such water
shall be supplied at a level of positive pressure sufficient to secure the system
against the ingress of untreated water or other contaminants; provided,
however, that such pressure shall be at a minimum of 11 meters (16 psi) for all
areas connected by new primary or secondary conveyance pipelines and, from the
tenth anniversary of the Commencement Date, for all pipelines throughout the
Service Area. Water pressures shall be determined by measuring service pressure
on the Customer’s side of the water meter inside of the water meter box.

In Tatad v. Garcia128, the Supreme Court held that it is not the owner of the

facilities used for the operation of public utility that is within the ambit of public

utility regulation; rather, it is the operator of the public utility that must comply

with public utility laws and regulations. In that case, the issue was whether or not

the owner of a public utility must comply with the nationality requirement under

the Constitution pertaining to public utilities.

The petitioner argued that the EDSA LRT III is a public utility, and the

ownership and operation thereof is limited by the Constitution to Filipino citizens

and domestic Corporations, not foreign corporations like, private respondent. The

issue posed was: Can respondent EDSA LRT Corporation, Ltd., a foreign

corporation own EDSA LRT III, a public utility?

In ruling that it is not the owner of the facilities used for the operation of

public utility that is within the ambit of public utility regulation; rather, it is the

operator of the public utility that must comply with public utility laws and

128
Tatad v. Garcia, 243 SCRA 436 (1995).
 118

regulations, the Supreme Court said: 129

The right to operate a public utility may exist independently and

separately from the ownership of the facilities thereof. One can own said facilities
without operating them as a public utility, or conversely, one may operate a public
utility without owning the facilities used to serve the public. The devotion of
property to serve the public may be done by the owner or by the person in control
thereof who may not necessarily be the owner thereof.
…
Indeed, a mere owner and lessor of the facilities used by a public utility is not a
public utility (Providence and W.R. Co. v. United States, 46 F. 2d 149, 152
[1930]; Chippewa Power Co. v. Railroad Commission of Wisconsin, 205 N.W.
900, 903, 188 Wis. 246 [1925]; Ellis v. Interstate Commerce Commission, 111. 35
S. Ct. 645, 646, 237 U.S. 434, 59 L. Ed. 1036 [1914]).
…
Even the mere formation of a public utility corporation does not ipso facto
characterize the corporation as one operating a public utility. The moment for
determining the requisite Filipino nationality is when the entity applies for a
franchise, certificate or any other form of authorization for that purpose (People v.
Quasha, 93 Phil. 333 [1953]).

In applying the doctrine in Tatad v. Garcia, it is clear that the

concessionaires must be liable as public utilities. The Agreement provides:

3.5 Inventory. Effective on the Commencement Date, the

Concessionaire shall have the Right to use any items of Inventory in carrying
out its responsibility under the Concession. Any consumable items owned by
MWSS and inventory not identified for use by the Concessionaire shall be subject
to the retention or disposal by MWSS and the applicable rules and procedures of
the Commission on Audit shall be complied with in the event of any such
disposition of assets by MWSS.

3.6 Movable Property . Legal title to all Movable Property in

existence at the Commencement Date shall be retained by MWSS. The
Concessionaire is hereby granted the right to operate, maintain in good
working order, repair, decommission and refurbish the Movable Property
required to provide the water and sewage services under this Agreement;
provided, however, that upon expiration of the useful life of any such Movable
Property as maybe determined by the Concessionaire, such Movable Material
shall be returned to MWSS in its then-current condition at no charge to MWSS or
the Concessionaire.

129
Id., at 453, 455, 456.
 119

6.5 Asset Management Obligations. The Concessionaire shall

have the following obligations concerning the management of the Facilities:

6.5.1 General. During the term of the Concession, the Concessionaire

shall:

(i) operate, maintain, renew and, as appropriate,

decommission Facilities in a manner consistent with the
National Building Standards and best industrial practices so
that, at all times, the water and sewerage system in the
Service Area is capable of meting the Service Obligations
(as such obligations may be revised from time to time by the
Regulatory Office following consultation with the
Concessionaire);
(ii) repair and correct, on a priority basis, any defect in the
Facilities that could adversely affect public health or welfare,
or cause damage to persons or third-party property; and
(iii) ensure that at all times the Concessionaire has sufficient
financial, material and personnel resources available to it to
meet its obligations under this Agreement.

6.15 New Assets. Legal title to all fixed assets contributed to the
MWSS system in the Service Area by the Concessionaire during the term of the
Concession shall remain with the Concessionaire until the Expiration Date (or the
Early Termination Date) at which time all right, title and interest in such assets
shall automatically vest in MWSS. The Concessionaire may mortgage or create
security interest over such assets solely for the purpose of financing (or
refinancing) the acquisition or construction thereof; provided, however, that no
such mortgage or security interest shall extend beyond the Expiration Date and,
provided further, however, that no such mortgage or security interest shall be
subject to foreclosure except following an Event of Termination. The
Concessionaire shall not, without the prior approval of MWSS, create a security
interest of any kind over all or any part of the Facilities to which MWSS has legal
title. Legal title to all facilities (including any fixed assets resulting from the
exercise of rights and powers referred to in Section 7.2 below) other than new
assets contributed by the Concessionaire shall remain with MWSS.

Although the legal title to all facilities of the concessionaires, other than

new assets contributed, pertain to MWSS, it is blatant from the foregoing

provisions that the operation of the waterworks have been assigned to the

concessionaires. The fact that the concessionaires do not own the facilities does not

deny the fact they are still the operators in accordance to the Agreement, thereby
 120

placing them within the ambit of laws regulating public utilities.

The case of Bagasting v. Committee on Privatization and Philippine

National Oil Company130 explained that a public utility must be organized “for hire

or compensation” to serve the public. This criterion has also been met by the

concessionaires. The Agreement provides:

9.3.4 General Rates Setting Policy/Rate Rebasing Determination.

The maximum rates chargeable by the Concessionaire for water and sewage
services hereunder applicable to the period through the Second Rate Rebasing
Date (subject to interim adjustments as described in this Article 9) are set out in
Schedule 5 to this Agreement. It is the intention of the parties that, from and after
the Second Rate Rebasing Date, the rates for water and sewerage services
provided by the Concessionaire shall be set at level that will permit the
Concessionaire to recover over the 25-year term of the Concession (net of any
grants from third parties and any possible Expiration Payment) operating, capital
maintenance and investment expenditures efficiently and prudently incurred,
Philippine business taxes and payments corresponding to debt service on the
MWSS Loans and Concessionaire Loans incurred to finance such expenditures,
and to earn a rate of return (referred to herein as the “Appropriate Discount Rate”)
on these expenditures for the remaining term of the Concession in line with the
rates of return being allowed from time to time to operators of long-term
infrastructure concession arrangements in other countries having a credit standing
similar to that of the Philippines. The parties further agree that the maximum
rates chargeable for such water and sewerage services shall be subject to general
adjustment at five-year intervals commencing on the second Rate Rebasing Date;
provided that the Regulatory Office may exercise its discretion to make a general
adjustment of such rates on the First Rate Rebasing Date, but, if it does not do so,
the Regulatory Office shall implement the assumptions set out in paragraph 2 of
Exhibit E on the fifth anniversary of the Commencement Date. It is understood
that the determination of the appropriate rate of return will be made separately at
the time of each generalized rate rebasing.
It is also the intention of the parties that rates be set in such a way as to
provide appropriate efficiency incentives to the Concessionaire, with a view
toward benefiting both the Customers and the Concessionaire.
The Regulatory Office shall determine the Rebasing Adjustment to be used for the
purposes of calculating the Rates Limit for each of the five Charging Years of
each Rebasing Period, in accordance with the provisions set forth below.

9.5 Connection Charges .

130
Bagasting v. Committee on Privatization and Philippine National Oil Company, 246 SCRA 334,
358 (1995).
 121

(i) For connections or reconnections to a water main or a public sewer (each

a “Connection”) that are both located less than 25 meters from the
connection point and are to residential Customers the Concessionaire
shall have the right to charge each Customer requesting such a
Connection a fee not to exceed P3,000, which amount shall automatically
be adjusted on January 1st of each year by the percentage change in the
Consumer Price Index for the preceding year (each a “Connection
Charge”). Within three months after the Commencement Date, the
Concessionaire shall with the approval of the Regulatory Office
promulgate rules that permit payment of Connection Charges in
installments over a five-year period by Low-Income Customers.

(ii) For Connections to a water main or a public sewer located more than 25
meters from the connection point or for Connections to non-residential
Customers, the Concessionaire shall have the right to charge each
Customer requesting such a Connection a fee equal to the costs
reasonably and efficiently incurred by the Concessionaire in making that
Connection, including the costs of upgrading or restoring existing
connections or metering facilities to acceptable technical standards.

Notwithstanding anything to the contrary in this Section 9.5, there shall be no

connection charge for public standpipes.

Based on the provision above, the services offered by the concessionaires

are “for hire or compensation.” The rate to charge, however, is limited by the

Agreement. The rates are provided in order to compensate the concessionaires, as

provided in the second paragraph of Article 9.3.4. Moreover, the Agreement also

provides that the concessionaires are responsible for all taxes from any income

associated with the Concession arising on or after the commencement date. It says:

Subject to the Undertaking Letter, the Concessionaire shall be

responsible for all income and withholding taxes and other forms of taxes
arising from payments by Customers for services rendered on and after the
Commencement Date and from any other income associated with the
Concession arising on or after the Commencement Date. The Concessionaire
shall be responsible for the payment of all documentary stamp taxes payable in
connection with the execution of this Agreement and any related agreements or
instruments; all customs, import duties and other taxes or assessments relating to
the importation into the Philippines of plant and equipment to be used in
connection with the Concession; and all local transfer taxes on property acquired
through the exercise of rights pursuant to Section 7.2. In addition, the
Concessionaire shall pay, for and on behalf of MWSS, or shall reimburse MWSS
 122

within 10 days of demand therefor, any real property taxes and other taxes or
assessments payable by MWSS on MWSS property or assets in the Service Area
used for the supply of water and sewerage services.

The concessionaires, therefore, earn income in providing services to the

general public within their respective service areas. Such fact squarely fits on the

criterion that a public utility under the Constitution and the Public Service Law is

one organized “for hire or compensation” to serve the public, as provided in the

case of Bagasting v. Committee on Privatization.131

The Philippine Supreme Court held in Albano v. Reyes132 that:

“Franchises issued by Congress are not required before each and every public
utility may operate. Thus, the law has granted certain administrative agencies the
power to grant licenses for or to authorize the operation of certain public utilities.”

Congress has granted certain administrative agencies the power to grant

licenses for, or to authorize the operation of certain public utilities. With the

growing complexity of modem life, the multiplication of the subjects of

governmental regulation, and the increased difficulty of administering the laws,

there is a constantly growing tendency towards the delegation of greater powers by

the legislature, and towards the approval of the practice by the courts. It is generally

recognized that a franchise may be derived indirectly from the state through a duly

designated agency, and to this extent, the power to grant franchises has frequently

been delegated, even to agencies other than those of a legislative nature. In

131
Bagasting v. Committee on Privatization and Philippine National Oil Company, 246 SCRA 334,
358 (1995).
132
Albano v. Reyes, 175 SCRA 264, 271 (1989).
 123

pursuance of this, it has been held that privileges conferred by grant by local

authorities as agents for the state constitute as much a legislative franchise as

though the grant had been made by an act of the Legislature.133

In addition, the 1987 Philippine Constitution does not limit to franchise

grant the means by which a public utility may operate. A public utility may operate

through a franchise grant, a certificate, or any other form of authorization. Section

11 of Article 12 provides:

Section 11. No franchise, certificate, or any other form of

authorization for the operation of a public utility shall be granted except to
citizens of the Philippines or to corporations or associations organized under the
laws of the Philippines at least sixty per centum of whose capital is owned by
such citizens, nor shall such franchise, certificate, or authorization be
exclusive in character or for a longer period than fifty years. Neither shall any
such franchise or right be granted except under the condition that it shall be
subject to amendment, alteration, or repeal by Congress when the common good
so requires. The State shall encourage equity participation in public utilities by the
general public. The participation of foreign investors in the governing body of any
public utility enterprise shall be limited to their proportionate share in its capital,
and all the executive and managing officers of such corporation or association
must be citizens of the Philippines.

It is clear, therefore, that under the 1987 Philippine Constitution and the

doctrine enunciated in Albano v. Reyes, the mere absence of a franchise does not

strip the concessionaires the character of a public utility. The absence of franchise

is inconsequential because the contracts entered into by MWSS and the

concessionaires were sufficient authorization for the operation of a public utility.

Again, by the doctrine in Tatad v. Garcia, the operator of the public utility is the

one within the ambit of public utility regulations. Therefore, it is the

133
Philippine Airlines, Inc. v. Civil Aeronautics Board and Grand International Airways, 270 SCRA
538, 550 (1997).
 124

concessionaires themselves that must be considered as public utilities. They must

be liable as public utilities themselves and they cannot assign their liabilities to

MWSS. From the foregoing reasons, an agency contract is definitely incompatible

with the concession agreements.

MWSS Concessionaires: Public Utilities

as Intended by the Concession Agreements’ Drafters

Lastly, it is the Agreement itself that requires the concessionaires to comply with

the nationality requirement set by the 1987 Philippine Constitution in Section 11 of

Article 12 abovementioned for the operation of a public utility. The following are

the pertinent provisions in the Agreement:

WHEREAS, MWSS has determined to grant concessions to private

sector corporations, at least 60% of the outstanding capital stock of which is
owned and controlled by Philippine nationals, which shall act as contractors to
perform certain functions, and as agents for the exercise of certain rights and
powers, of MWSS under its Charter, operate the system of waterworks and
sewerage services referred to in the Charter.
xxx
4.2 Representations and Warranties of the Concessionaire
The Concessionaire hereby represents and warrants to MWSS as follows:
4.2.1 Corporate Organization
The Concessionaire is a corporation duly organized, validly
existing and in good standing under the laws of the Republic of
the Philippines. The Concessionaire has full corporate power
and authority to carry on its business as required under the terms
of this Agreement and is duly qualified to do business in all
jurisdictions where the ownership of its assets or the conduct of
its business requires such qualification. The outstanding voting
capital stock of the Concessionaire is at least 60% owned by
citizens of the Philippines or by corporations that are
themselves at least 60% owned by citizens of the Philippines.
 125

Furthermore, the nationality requirement set by the 1987 Constitution for

the operation of a public utility was embodied in the notice to bid for the water

service contracts. Thus, the intention to include the concessionaires within the

ambit of public utility regulation is clear right from the inception of the

Agreements. If the proponents of the concession agreements did not consider the

concessionaires as public utilities themselves, why would they have to comply with

such Constitutional requirement? Worth quoting is Mark Dumol’s134 entry in his

work “The Manila Concession: A Key Government Official’s Diary of the World’s

Largest Water Privatization”135 which says:

An international water operator entering our bid needed a local partner.

In fact, given the laws of the country, the local partner was actually going to
be the majority owner of the utility (60 percent minimum) and principal
manager of the water system. In other words, the local partner was supposed to
run the show.
xxx
The Philippine constitution specifically mandates that all public utilities must
be owned and controlled by Filipinos. Specifically, the concessionaire would
need to be 60 percent domestically owned. Furthermore, it meant that the
officers had to be Filipinos. This apparently was not the case in Buenos Aires
where it was allowed to have foreign firms and foreign personnel run the water
utility.
This provision was problematic. It was acknowledged that there was no local firm
that was capable of properly operating MWSS. We needed a technology transfer
from foreign firms. Yet, how could this transfer be effected if the foreigners were
not allowed to run MWSS? This was one of the first major issues that our
consultants tackled. They tried all sorts of formulas by which the letter of the law
would be followed while giving actual control of MWSS operations to foreigners.
However, they kept bumping into provisions of other laws that made these
arrangements illegal.
In the end, we decided to very carefully follow the provisions of the law, not
only the letter but the spirit as well. We thought that with the high profile of this

134
Mark Dumol was the Chief of Staff of the Secretary of Public Works and Highways at the time
of the MWSS privatization in 1997. He was one of the key players in drafting the concession
agreements.
135
DUMOL, supra note 95, at 82.
 126

transaction, we were going to attract a lot of flak from the opposition politicians if
we tried to employ a "trick" that would give actual control of MWSS to
foreigners. We did not want to risk ending up in a court battle we could actually
lose. We made it clear to all the bidders that the winning concessionaires
would need to be 60 percent Filipino-owned and that management of the firm
had to be in Filipino hands.

The foregoing discussions blatantly show that the MWSS Concessionaires

are public utilities themselves and must indeed be within the ambit of laws

governing public utilities. They are not mere agents of MWSS, the public utility.

Instead, they themselves acquire the identity of a public utility by operation of law

as dictated by current jurisprudence.

Implications of Being a Public Utility

1. Each of the concessionaires is mandated by jurisprudence to set its rate of

return to 12% of the present market value of its assets actually devoted to
public service.

It is the imperative duty of the State to interpose its protective power whenever too

much profits become the priority of public utilities.136 In regulating rates charged

by public utilities, the State protects the public against arbitrary and excessive rates

while maintaining the efficiency and quality of services rendered. However, the

power to regulate rates does not give the State the right to prescribe rates which are

so low as to deprive the public utility of a reasonable return on investment.137

As a public utility, each of the concessionaires is mandated by

136
Republic v. Manila Electric Company, 401 SCRA 130, 131 (2003).
137
Republic v. Manila Electric Company, 391 SCRA 700, 706-707 (2002).
 127

jurisprudence to set its rate of return to 12% of the present market value of its

assets actually devoted to public service. The decided weight of authority, however,

is to the effect that property valuation is not to be solved by formula, but depends

upon particular circumstances and relevant facts affecting each utility as to what

constitutes a just rate base and what would be the fair return, just to both the utility

and the public.138 As early as 1966, in Manila Electric Company v. Public Service

Commission139, the Supreme Court has held that “in the Philippines, our decisions

have consistently adopted the 12% rate for public utilities.” It said:

What is the fair rate of return or profit upon which the schedule of rates
chargeable by the MERALCO should be based? The PSC has fixed it at 12% of
the present value of the MERALCO assets devoted to public service.
xxx
With respect to the return allowable to the MERALCO it is urged that the rate
authorized by the PSC is higher than that prevailing in the United States. It is well
settled, however, that the rate of return permissible depends upon existing
conditions. In the Philippines, our decisions have consistently adopted the
12% rate for public utilities and the PSC has done no more than adhere to
the established Jurisprudence thereon. Indeed, the GAO report concedes that
12% is the fair rate of return for the MERALCO. This is not the proper occasion
to inquire into the wisdom of such jurisprudence although it is a matter of
common knowledge that the prevailing rates of interest on loans in the Philippines
are generally higher than those charged in the United States.

What should be included in the rate base are those properties which are

being devoted to public service at the time of the investigation for rate-revision

purposes, since whether an item of property is actually being used or is being

reasonably held for operations is essentially and primarily a factual question. It

involves (in the very least) the exercise of reasoned judgment and a realistic,

138
Republic of the Philippines v. Hon. Medina, et. al., 41 SCRA 643, 662 (1971).
139
Manila Electric Company v. Public Service Commission, 18 SCRA 651, 665-666 (1966).
 128

appraisal of values on the pan of the regulatory agency.140

While the power to fix rates is a legislative function, whether exercised by

the legislature itself or delegated through an administrative agency, a determination

of whether the rates so fixed are reasonable and just is a purely judicial question

and is subject to the review of the courts.141 Whether a particular percentage or rate

is reasonable depends upon numerous consideration, the most frequently mentioned

being the risks to which the principal and income from it are subjected, whether

these risks be moral or physical or otherwise, the uniformity and certainty of the

return, the character of the business, the locality in which it is placed, the density of

population, whether competition exists, the returns secured in the locality from

other investments of a similar nature whether the return is gross or net, for

example, whether it is clear of taxes or other expenses, the necessity of obtaining

money to provide good service, the size and comparative financial strength of the

company, the ability of the company to borrow money, the demand for money, the

prevailing rate of interest in the community in which the enterprise is located, the

desirability of attracting capital, the necessity of providing surplus for

contingencies, the competency of the management, the advisability of regarding

superior management, the character of service rendered, the previous financial

history of the company, whether it has been poor or prosperous and the market

140
Republic of the Philippines v. Hon. Medina, et. al., 41 SCRA 643, 672 (1971) [Castro’s
concurring opinion].
141
Republic v. Manila Electric Company, 391 SCRA 700, 707 (2002).
 129

value of money.142 It is said that the question of the reasonableness of the return

cannot be determined without reference to the interest of the public; that the value

of the service and the financial condition of locality served must be taken into

account. It is held that no one element is sufficient in itself, but that all enter as

governing factors in the problem; that there is no inflexible rule as to the rate of

return to be allowed, each case depending upon its own circumstances.143

It should be noted that the present or market value theory adopted by the

Public Service Commission (PSC) is in consonance with the practice consistently

adhered to in this jurisdiction and upheld in an uninterrupted line of decision of this

Court. And said decisions are borne out by the weight of authority in other

jurisdictions.144

In the United States, the landmark pronouncement that accorded recognition

to the State's power to fix the rates that regulated businesses may charge, was

banded down in 1876 in Munn v. Illinois145, when private property is "affected with

a public interest, it ceases to be juris privati only." When, therefore, one devotes his

property to a use in which the public has an interest, he in effect, grants to the

public an interest in that use, and must submit to be controlled by the public for the

common good, to the extent of the interest he has thus created. He may withdraw

his grant by discounting the use; but, so long as he maintains the use, he must

142
Manila Electric Company v. Public Service Commission, 18 SCRA 651, 665 (1966).
143
Manila Electric Company v. Public Service Commission, 18 SCRA 651, 665 (1966).
144
Republic of the Philippines v. Hon. Medina, et. al., 41 SCRA 643, 662 (1971).
145
Munn v. Illinois, 94 U.S. 113 (1876).
 130

submit to the control.146

In other words, the cap on the rate of return of a public utility is a legitimate

exercise of the State’s police power. Since police power lies on the legislature, it is

incumbent upon them to determine the reasonable rate of return a public utility is

entitled. In the case of the MWSS acting as a public utility, the rate of return has

been set by the legislature to 12% on a rate base composed of the sum of its assets

in operation as revalued from time to time plus two months' operating capital. A

perusal of the concession agreements shows that the concessionaires are subject to

the 12% limitation as provided in Section 12 of the MWSS Charter. To wit:

SECTION 12. Review of Rates by the Public Service Commission. —

The rates and fees fixed by the Board of Trustees for the System and by the local
governments for the local systems shall be of such magnitude that the System's
rate of net return shall not exceed twelve per centum (12%), on a rate base
composed of the sum of its assets in operation as revalued from time to time
plus two months' operating capital. Such rates and fees shall be effective and
enforceable fifteen (15) days after publication in a newspaper of general
circulation within the territory defined in Section 2 (c) of this Act. The Public
Service Commission shall have exclusive original jurisdiction over all cases
contesting said rates or fees. Any complaint against such rates or fees shall be
filed with the Public Service Commission within thirty (30) days after the
effectivity of such rates, but the filing of such complaint or action shall not stay
the effectivity of said rates or fees. The Public Service Commission shall verify
the rate base, and the rate of return computed therefrom, in accordance with the
standards above outlined. The Public Service Commission shall finish, within
sixty (60) calendar days, any and all proceedings necessary and/or incidental to
the case, and shall render its findings or decisions thereon within thirty (30)
calendar days after said case is submitted for decision.

In cases where the decision is against the fixed rates or fees, excess payments
shall be reimbursed and/or credited to future payments, in the discretion of the
Commission.

The Agreement, however, provides that when the limitation is exceeded, the

146
Republic of the Philippines v. Hon. Medina, et. al., 41 SCRA 643, 672 (1971) [Castro’s
concurring opinion].
 131

excess shall be treated as an “Expiration Payment.” The pertinent provisions are

Articles 9.1 and 9.4.4:

9.1. Standard Rates/CERA Fee. Subject to the limitation of Section

12 of the Charter, Standard Rates may be adjusted from time to time in
accordance with the rate adjustment provisions set forth in Sections 9.2, 9.3 and
9.4 below. In the event that the Standard Rates chargeable under this
Agreement during any period would exceed the limitation of Section 12 of the
Charter applicable to that period, the Charter limitation shall be observed
but the Regulatory Office shall treat the excess amount (and interest accrued
thereon at the Appropriate Discount Rate) as an Expiration Payment;
provided, however, that the Concessionaire may agree to forgo such Expiration
Payment in exchange for some other benefit, such as an adjustment to one or
more of the coverage targets, that the Regulatory Office may at the time offer
to the Concessionaire. Without prejudice to the obligation of MWSS to pay any
such Expiration Payment on the Expiration Date, it is the intention of MWSS,
should it choose to solicit bids from private parties for the right to operate the
system following the Expiration Date, to obtain a lump-sum cash payment from
such parties as part of the consideration for the awarding of such rights and to
fund any Expiration Payment required by this Section from the proceeds of such
cash payment.

The Concessionaire may charge Customers a CERA payment of one Peso per
cubic meter of water consumed above the Standard Rates. Although CERA has
historically been used by MWSS to adjust for exchange rate movements, that
function will be performed through the operation of Section 9.3.1 (vi) of this
Agreement.

xxx

9.4.4. Expiration Payment. In the event that the Regulatory Office

determines, at any time from and after the second Rate Rebasing Date, that
the Concessionaire shall incur significant capital expenditures in carrying out
the Concessionaire’s responsibilities under this Agreement which (in the
judgment of the Regulatory Office) should not be recovered through
immediate rate adjustments, the Regulatory Office may propose to the
Concessionaire that this Agreement be amended to provide for the payment
to the Concessionaire on the Expiration Date of a lump-sum amount designed
to reimburse the Concessionaire for all or a portion of such unforeseen
capital expenditure (the “Expiration Payment”). Any Expiration Payment
shall be treated by the Regulatory Office as an anticipated Receipt for purposes of
making rate adjustment calculations under this Article 9. Any Expiration Payment
may be discharged through the delivery to the Concessionaire of a U.S. Dollar-
denominated debt instrument issued by MWSS or by another public-sector entity
owned by the Republic but, in either case, with the full faith and credit guarantee
of the Republic, ranking at least pari passu with all other unsecured and
unsubordinated external debt obligations of the Republic, having a cash value to
such Expiration Payment.
 132

From the foregoing, it is clear that there is an attempt to circumvent the

MWSS Charter limitation by providing for a payment to the Concessionaire on the

Expiration Date a lump-sum amount designed to reimburse the Concessionaire for

all or a portion of such unforeseen capital expenditure. This lump-sum shall

include, among others, the excess in the 12% limitation. This would mean that the

concessionaires will still be able to earn the excess, albeit subject to the condition

that there will be an unforeseen capital expenditure. This is a blatant circumvention

of the MWSS Charter which does not in any circumstance allow any excess to the

12% limitation be earned by any means.

Worse, the interest of the amount that exceeds the 12% limitation shall be

accrued as the Appropriate Discount Rate (ADR). The ADR was initially defined in

a relatively loose manner as the prevailing rate of return for similar infrastructure

projects.147 In the Agreement, the ADR means, at any time, the real (i.e., not

inflation adjusted) weighted average cost of capital (after taxes payable by the

concession business). In determining the ADR, the Regulatory Office shall apply

conventional and internationally accepted methods, and in particular shall make

estimates of the cost of debt in domestic and international markets, the cost of

equity for utility businesses in the Philippines and abroad and shall make

adjustments to such estimates to reflect country risk, exchange rate risk and any

other project risks. The Regulatory Office, at its sole discretion, may consider the

Concessionaire's rate of return, either stated or implied in its bid, in determining the
147
DUMOL, supra note 95, at 53.
 133

Appropriate Discount Rate.

In simple terms, ADR is the project return, as recommended by the NERA

consultants during the drafting of the Agreements. The project return is the

theoretical return on an investment made with pure equity. In the case of the

MWSS Concession Agreement, it was essential to use project return because,

otherwise, the regulators would have needed to approve all of the financing

transactions of the concessionaires. This would have tied up the concessionaires in

bureaucratic knots.148

Therefore, there is another attempt to circumvent the 12% limitation by

treating the interest of the amount in excess to the 12% limitation as a project

return. It is equivalent to saying that such interest is the fruit of a poisonous tree,

which therefore, cannot be earned as well. If the principal should not be earned,

with more reason that the interest must also not be earned.

2. The doctrines enunciated by the Supreme Court in Republic v. Manila Electric

Company149 must be observed.

The resolution of the issues involved in this case hinged on the determination of the

kind and the amount of operating expenses that should be allowed to a public utility

to generate a fair return and the proper valuation of the rate base or the value of the

148
Id. at 55.
149
Republic v. Manila Electric Company, 391 SCRA 700 (2002), Motion for Reconsideration, 401
SCRA 130 (2003).
 134

property entitled to a return.

In this case, the Supreme Court upheld the ruling of the Energy Regulatory

Board (ERB) that income tax should not be treated as operating expense as this

should be “borne by the stockholders who are recipients of the income or profits

realized from the operation of their business” hence, should not be passed on to the

consumers. It also held that the ERB did not abuse its discretion when it applied the

“net average investment method” in the determination of the rate base because this

treatment is consistent with the settled rule in rate regulation that the determination

of the rate base of a public utility entitled to a return must be based on properties

and equipment actually being used or are useful to the operations of the public

utility, as against the trending method employed by MERALCO, the “average

investment method.”

As a consequence of the second pronouncement and the concessionaires

being public utilities, the concessionaires must compute their rate of return based

on their respective assets used directly in business. Since the concessionaires are

each a public utility themselves, there is no basis to say that, by being agents of the

public utility and because Section 12 of the MWSS Charter refers to the “System”

in computing for the rate of return and that MWSS and the two concessionaires all

form the “System”, the base for the computation of the rate of return must include

the cumulative assets of MWSS and the two concessionaires. As separate public

utilities that use assets for providing service imbued with public interest, they must
 135

be treated separately in determining the rate of return. As held in Tatad v. Garcia,

ownership of assets used in business does not affect the public utility nature of the

business.

Because of the first pronouncement, the MWSS Regulatory Office

(“MWSS-RO”), in March 2004, issued a letter to the concessionaires notifying

them that pursuant to Article 9.3.1 of the Agreement, it has determined that by

reason of a change in law, government regulation, rule or order, or interpretation

thereof, that affects or is likely to affect the Cash Flow of the Concessionaires, it

shall determine the Extraordinary Price Adjustment which shall be made effective

January 1st of the Charging Year 2005. The pertinent provisions are as follows:

9.3 Extraordinary Price Adjustments. It is the intention of the parties

that should certain unforeseen events occur during the term of the Concession,
rates may be adjusted (up or down) to account for the financial consequences of
such events. Such adjustments may occur from time to time as described in this
Section 9.3.

In the event that one or more Grounds for Extraordinary Price Adjustment
(“GEA”), as defined in Section 9.3.1 below, has occurred or is expected to
occur, the Regulatory Office shall either (i) determine, in accordance with
Section 9.3.2 below, an extraordinary price adjustments (an “Extraordinary
Price Adjustment” or an “E”) for the purposes of calculating the Rates
Adjustment Limit to be applied to the Standard Rates appropriate
adjustment to the Service Obligations.

The Concessionaire may at any time require the Regulatory Office to consider
circumstances that the Concessionaire believes constitute Grounds for
Extraordinary Price Adjustment. The Regulatory Office may also at any time
notify the Concessionaire of circumstances that the Regulatory Office believes
constitute Grounds for Extraordinary Price Adjustment, as set forth in Section
9.3.1 below.

9.3.1 Grounds for Extraordinary Price Adjustment. A Ground for

Extraordinary Price Adjustment (“GEA”) means any of the following
circumstances(whether or not treated as an Expenditure or Receipt under this
Agreement):
 136

(i) the Regulatory Office, following consultation with the

Concessionaire, determines that amendments should be made to
the Service Obligations;

(ii) there is any change in law, government regulation, rule or

order, or interpretation thereof, that affects or is likely to
affect the Cash Flow of the Concessionaire;

(iii) the Regulatory Office determines that a breach of this

Concession Agreement has occurred and an appropriate remedy
has not been made and will not be made;

(iv) the Concessionaire has been or will be in receipt of a grant or

below-market financing from any multilateral or bilateral source
that may be used to finance or offset any Expenditures, where
such grant or below-market financing was not known or
anticipated at the Commencement Date, or at the last Rate
Rebasing Date, whichever is the most recent;

(v) in the reasonable opinion of the Regulatory Office, a material

change has been made to the basis of calculation or definition of
the Consumer Price Index or replacement index agreed to
pursuant to Section 2.4 above, which would render that index
inappropriate for the purposes contemplated by Section 9.2.1
above;

(vi) without regard to the CERA adjustment referred to in Section

9.1, (a) in respect of any MWSS Loan, a change of more than
2% has occurred after December 6, 1996 (the date of the
distribution to the Concessionaire of the technical and business
assumptions set forth in Exhibit E) in the rate of exchange
between the Philippine peso and the currency in which such
Concessionaire Loan is denominated, and, in either case, such
change in exchange rates has not previously been the subject of
an Extraordinary Price Adjustment;

(vii) there exists an unpaid penalty amount owed by the

Concessionaire to the Regulatory Office pursuant to Section
10.4;

(viii) in the reasonable opinion of the Regulatory Office, the bidding

assumptions distributed to the Concessionaire prior to the bid
(and attached hereto as Exhibit E) have proven to be incorrect in
a material way during any period prior to the first general rate
rebasing pursuant to Section 9.4.2;

(ix) an increase has occurred in the Concession Fee as a result of

Cost Overruns for the UATP project;
 137

(x) the financial performance of the Concessionaire has been

materially affected as a result of a delay in the completion of
the UATP project beyond June 30, 1999; or

(xi) the Concessionaire has incurred significant additional costs as a

result of an Event of Force Majeure which are not covered by
insurance.

In order to qualify for an Extraordinary Price Adjustment to be

incorporated into the Rates Adjustment Limit for any Charging Year,
notification by the Regulatory Office and/or, as the case may be, the
Concessionaire, that one or more GEAs have occurred or are expected to
occur shall be made by March 31 of the previous Charging Year.

9.3.2 Determination of Extraordinary Price Adjustment. Upon

determination by the Regulatory Office that one or more GEAs have occurred, the
Regulatory Office shall, by taking into account all information available at the
time, and by making reasonable projections of all factors relevant to the future
Cash Flows of the Concessionaire, calculate:

(i) the Cash Flows which would be caused by the GEA or GEAs
(and, for this purpose, the circumstances referred to in Section
9.3.1 (iv) any exchange rate movement of the kind referred to
in Section 9.3.1 (vi) shall be deemed to affect Cash Flows);
(ii) the Net Present Value of those Cash Flows as at June 30 of the
following Charging Year; and
(iii) what Extraordinary Price Adjustment, positive or negative,
made to the Rates Adjustment Limit for the following Charging
Year would cause the Net Present Value as at June 30 of the
Charging Year of the expected Receipts of the concessionaire
for the period beginning January 1 of that Charging Year until
the Expiration Date to change by an amount equal but opposite
in sign to the Net Present Value of Cash Flows referred to in
(ii) above.

In the event that such calculation indicates that the appropriate Extraordinary
Price Adjustment is between zero and plus 1% then the Regulatory Office shall
determine that the Extraordinary Price Adjustment is zero.

The Regulatory Office shall determine what Extraordinary Price Adjustment

should be made for any Charging Year by May 31 prior to the beginning of that
Charging Year and shall notify the Concessionaire in writing setting out the basis
for such determination.

The determination of a “change in law, rule, or interpretation” regarded by

the MWSS-RO as a ground for an extraordinary price adjustment by reason of the

ruling in Republic v. Manila Electric Company clearly illustrates that the

 138

concessionaires have been including income taxes in their operating expenses.

A perusal of the Agreement shows that there are some inconsistent

provisions. Article 9.3.4 provides that “it is the intention of the parties that, from

and after the Second Rate Rebasing Date, the rates for water and sewerage

services provided by the Concessionaire shall be set at level that will permit the

Concessionaire to recover over the 25-year term of the Concession (net of any

grants from third parties and any possible Expiration Payment) operating, capital

maintenance and investment expenditures efficiently and prudently incurred,

Philippine business taxes and payments corresponding to debt service on the

MWSS Loans and Concessionaire Loans incurred to finance such expenditures, and

to earn a rate of return (referred to herein as the “Appropriate Discount Rate or

ADR”).” On the other hand, Article 1 defines Appropriate Discount Rate as, “at

any time, the real (i.e., not inflation adjusted) weighted average cost of capital

(after taxes payable by the concession business).”

As earlier discussed, the ADR is referred to as the rate of return, and at any

time, the real (i.e., not inflation adjusted) weighted average cost of capital (after

taxes payable by the concession business). It would be formally determined by the

MWSS Regulatory Office.150 In determining the ADR, the Regulatory Office shall

apply conventional and internationally accepted methods, and in particular shall

make estimates of the cost of debt in domestic and international markets, the cost of

150
DUMOL, supra note 95, at 53.
 139

equity for utility businesses in the Philippines and abroad and shall make

adjustments to such estimates to reflect country risk, exchange rate risk and any

other project risks. The Regulatory Office, at its sole discretion, may consider the

Concessionaire's rate of return, either stated or implied in its bid, in determining the

Appropriate Discount Rate.151

Article 1, abovementioned, does not determine which taxes payable are to

be deducted to the real weighted average cost of capital in order to come up with

the rate of return or the ADR. It would seem that it meant all taxes, regardless of

the nature. On the other hand, the former provision, Article 9.3.4, explicitly states

that only business taxes, for purposes of rate determination, are supposed to be

recovered by the concessionaires. It must be noted that operating expenses must be

deducted to the actual revenues, which then would be divided by the assets used

directly for business, in order to compute for the rate of return. By deducting

income tax from the revenues, it is as if it has been considered as an operating

expense.

Article 9.3.4 of the MWSS Concession Agreements is in more in line with

the pronouncement of the Supreme Court in Republic v. Manila Electric Company.

The Court said:

In determining whether or not a rate yields a fair return to the utility, the
operating expenses of the utility must be considered. The return allowed to a
public utility in accordance with the prescribed rate must be sufficient to
provide for the payment of such reasonable operating expenses incurred by
the public utility in the provision of its services to the public. Thus, the public

151
MWSS Concession Agreement, Article 1.
 140

utility is allowed a return on capital over and above operating expenses.

However, only such expenses and in such amounts as are reasonable for the
efficient operation of the utility should be allowed for determination of the rates to
be charged by a public utility.
The ERB correctly ruled that income tax should not be included in the
computation of operating expenses of a public utility. Income tax paid by a
public utility is inconsistent with the nature of operating expenses. In general,
operating expenses are those which are reasonably incurred in connection
with business operations to yield revenue or income. They are items of
expenses which contribute or are attributable to the production of income or
revenue. As correctly put by the ERB, operating expenses “should be a requisite
of or necessary in the operation of a utility, recurring, and that it redounds to the
service or benefit of customers.
Income tax, it should be stressed, is imposed on an individual or entity as a
form of excise tax or a tax on the privilege of earning income. In exchange for
the protection extended by the State to the taxpayer, the government collects taxes
as a source of revenue to finance its activities. Clearly, by its nature, income tax
payments of a public utility are not expenses which contribute to or are incurred in
connection with the production of profit of a public utility. Income tax should be
borne by the taxpayer alone as they are payments made in exchange for
benefits received by the taxpayer from the State. No benefit is derived by the
customers of a public utility for the taxes paid by such entity and no direct
contribution is made by the payment of income tax to the operation of a
public utility for purposes of generating revenue or profit. Accordingly, the
burden of paying income tax should be Meralco’s alone and should not be shifted
to the consumers by including the same in the computation of its operating
expenses.
The principle behind the inclusion of operating expenses in the determination
of a just and reasonable rate is to allow the public utility to recoup the
reasonable amount of expenses it has incurred in connection with the services
it provides. It does not give the public utility the license to indiscriminately
charge any and all types of expenses incurred without regard to the nature thereof,
i.e., whether or not the expense is attributable to the production of services by the
public utility. To charge consumers for expenses incurred by a public utility
which are not related to the service or benefit derived by the customers from
the public utility is unjustified and inequitable.

Therefore, as a public utility, the concessionaires are bound to follow the

Republic v. Manila Electric Company ruling. Income tax should not be included in

computing for the concessionaire’s operating expenses.

 141

3. Section 11, Article 12 of the 1987 Philippine Constitution must be observed.

Section 11 of Article 12 provides:

Section 11. No franchise, certificate, or any other form of authorization for the
operation of a public utility shall be granted except to citizens of the Philippines or
to corporations or associations organized under the laws of the Philippines at least
sixty per centum of whose capital is owned by such citizens, nor shall such
franchise, certificate, or authorization be exclusive in character or for a longer
period than fifty years. Neither shall any such franchise or right be granted except
under the condition that it shall be subject to amendment, alteration, or repeal by
Congress when the common good so requires. The State shall encourage equity
participation in public utilities by the general public. The participation of foreign
investors in the governing body of any public utility enterprise shall be limited to
their proportionate share in its capital, and all the executive and managing officers
of such corporation or association must be citizens of the Philippines.

This section provides for six consequences of being a public utility:

i. Foreign ownership limitation, which is a maximum of forty per cent (40%);

ii. The franchise, certificate, or authorization shall not be exclusive in

character;

iii. The franchise, certificate, or authorization shall not be for a longer period

than fifty (50) years;

iv. Any such franchise or right granted shall always be subject to amendment,

alteration, or repeal by Congress when the common good so requires;

v. The participation of foreign investors in the governing body of any public

utility enterprise shall be limited to their proportionate share in its capital;

and

vi. All the executive and managing officers of such corporation or association
 142

must be citizens of the Philippines.

The 1987 Philippine Constitution provides for the required foreign

ownership limitation for the operation of a public utility. As public utilities, the

MWSS Concessionaires must be organized under the laws of the Philippines with

at least 60% of their respective capital owned by Filipino citizens.

The Agreement, on the other hand, has acknowledged such

requirement by stipulation the following provisions:

WHEREAS, MWSS has determined to grant concessions to private

sector corporations, at least 60% of the outstanding capital stock of which is
owned and controlled by Philippine nationals, which shall act as contractors to
perform certain functions, and as agents for the exercise of certain rights and
powers, of MWSS under its Charter, operate the system of waterworks and
sewerage services referred to in the Charter.
xxx
4.2 Representations and Warranties of the Concessionaire
The Concessionaire hereby represents and warrants to MWSS as follows:
4.2.1 Corporate Organization
The Concessionaire is a corporation duly organized, validly
existing and in good standing under the laws of the Republic of
the Philippines. The Concessionaire has full corporate power
and authority to carry on its business as required under the terms
of this Agreement and is duly qualified to do business in all
jurisdictions where the ownership of its assets or the conduct of
its business requires such qualification. The outstanding voting
capital stock of the Concessionaire is at least 60% owned by
citizens of the Philippines or by corporations that are
themselves at least 60% owned by citizens of the Philippines.

Furthermore, the nationality requirement set by the 1987 Constitution for

the operation of a public utility was embodied in the notice to bid for the water
 143

service contracts. Worth quoting is Mark Dumol’s152 entry in his work “The Manila

Concession: A Key Government Official’s Diary of the World’s Largest Water

Privatization”153 which says:

An international water operator entering our bid needed a local partner.

In fact, given the laws of the country, the local partner was actually going to
be the majority owner of the utility (60 percent minimum) and principal
manager of the water system. In other words, the local partner was supposed to
run the show.
xxx
The Philippine constitution specifically mandates that all public utilities must
be owned and controlled by Filipinos. Specifically, the concessionaire would
need to be 60 percent domestically owned. Furthermore, it meant that the
officers had to be Filipinos. This apparently was not the case in Buenos Aires
where it was allowed to have foreign firms and foreign personnel run the water
utility.

On the other hand, particular attention must be given to Article 2.1 of the

Concession Agreement, which provides:

2.1. Grant of Concession.

On the terms and subject to the conditions set forth herein, MWSS hereby grants
to the Concessionaire, as contractor to perform certain functions and as agent for
the exercise of rights and powers under the Charter, the sole right to manage,
operate, repair, Decommission and refurbish the Facilities in the Service Area,
including the right to bill and collect water and sewerage services supplied in the
Service Area (the “Concession”).

Under the Constitution, the franchise, certificate, or authorization given to a

public utility shall not be exclusive in character. This foregoing stipulation in the

Concession Agreement blatantly runs counter to the Constitution.

152
Mark Dumol was the Chief of Staff of the Secretary of Public Works and Highways at the time
of the MWSS privatization in 1997. He was one of the key players in drafting the concession
agreements.
153
DUMOL, supra note 95, at 82.
 144

4. The MWSS Concessionaires are subject to audit by the Commission on Audit.

The Commission on Audit has authority to audit public utilities pursuant to Section

38 of Presidential Decree No. 1445, otherwise known as the “Government Auditing

Code of the Philippines.” It provides:

Sec. 38. Authority to examine accounts of public utilities. - (1) The

Commission shall examine and audit the books, records, and accounts of public
utilities in connection with the fixing of rates of every nature, or in relation to the
proceedings of the proper regulatory agencies, for purposes of determining
franchise taxes.
(2) During the examination and audit, the public utility concerned shall
produce all the reports, records, books of accounts and such other papers as may
be required. The Commission shall have the power to examine under oath any
official or employee of the said public utility.
(3) Any public utility refusing to allow an examination and audit of its books
of accounts and pertinent records, or offering unnecessary obstruction to the
examination and audit, or found guilty of concealing any material information
concerning its financial status shall be subject to the penalties provided by law.

The Agreement, furthermore, provides that the concessionaires shall be

subject to an audit by an independent auditor appointed or acceptable to the

MWSS-RO. The following are the pertinent provisions:

6.5.3 Audit. The Regulatory Office shall have the right at any
time to commission an independent technical audit of the accuracy and
completeness of any Asset Condition Report and/or the Concessionaire’s
compliance with its obligations under Section 6.5.1 above. The Concessionaire
shall cooperate fully with any such audit. The cost of any such audit shall be
borne by the Concessionaire and treated as an Expenditure.

13.2 Audits. Not less frequently than once a year, the Concessionaire’s
books and records shall be audited by an independent auditor appointed by,
or acceptable to, the Regulatory Office, pursuant to internationally accepted
accounting practices. In addition, the Regulatory Office may, upon giving not less
than 15 days’ prior written notice to the Concessionaire, require that the
Concessionaire, require that the Concessionaire’s books and records relating to the
Concession to be audited on an interim basis by the Regulatory Office or by an
outside auditor. The Concessionaire shall cooperate fully with all such audits.
 145

The choice of auditor is clearly within the discretion of the MWSS-RO,

regardless whether this be the Commission on Audit or a private auditor.

5. The MWSS Concessionaires may be temporarily taken over by the State in the
times of national emergency, when the public interest so requires.

The 1987 Philippine Constitution provides in Section 17 of Article 12 that “In

times of national emergency, when the public interest so requires, the State may,

during the emergency and under reasonable terms prescribed by it, temporarily take

over or direct the operation of any privately owned public utility or business

affected with public interest.”

When the provision was introduced in the 1986 Constitutional Commission,

“national emergency” was explained as encompassing threat from external

aggression, calamities, or natural disasters, but not strikes.154 The phrase “business

affected with public interest” was also explained to mean as “business with a lot of

repercussion on the public, whether it be a public utility or other businesses which

may partake the characteristics of public utility but which is not yet considered

public utility” or any business “which concerns a mass-based consumer group” and

especially among the “low income groups.”155

The provision is silent with regard to just compensation for the duration of

the temporary take over. Also, unlike the power to declare martial law, it is silent as

154
JOAQUIN BERNAS, THE 1987 CONSITUTION OF THE REPUBLIC OF THE
PHILIPPINES: A COMMENTARY 1183 (2003), citing III RECORD 266-267.
155
Id. at 1185, citing III RECORD 647-648.
 146

regards the exact duration of the take-over. It is implied, however, that the take-

over can legally continue only during a national emergency. Therefore, the take-

over is terminated when there is no more national emergency to speak of.

According to Bernas, the duration of the take over would be discretionary with the

President.156

6. The MWSS Concessionaires may be subject to Section 18, Article 12 of the

1987 Philippine Constitution, as regards nationalization of industries.

Section 18, Article 12 of the 1987 Philippine Constitution provides that “The State

may, in the interest of national welfare or defense, establish and operate vital

industries and, upon payment of just compensation, transfer to public ownership

utilities and other private enterprises to be operated by the government.” This

section deals with nationalization or state ownership of industries and public

utilities.157

The decision to nationalize may be made by the state through Congress, on

the broad grounds of “the interest of national welfare or defense.”158 As far as just

compensation is concerned, Section 9 of the Bill of Rights is the same as Section

18 of Article 12. The difference is that while the former’s purpose is for “public

use,” the latter’s purpose is “in the interest of national welfare or defense.”

156
Id. at 1182.
157
Id. at 1185.
158
Id. at 1186.
 147

"Water is sometimes sharp and sometimes strong,

sometimes acid and sometimes bitter,
sometimes sweet and sometimes thick or thin,
sometimes it is seen bringing hurt or pestilence,
sometime health-giving, sometimes poisonous.
It suffers change into as many natures
as are the different places through which it passes.
And as the mirror changes with the color of its subject,
so it alters with the nature of the place,
becoming noisome, laxative, astringent, sulfurous, salty,
incarnadined, mournful, raging, angry, red, yellow,
green, black, blue, greasy, fat or slim.
Sometimes it starts a conflagration, sometimes it extinguishes one;
is warm and is cold, carries away or sets down,
hollows out or builds up, tears or establishes,
fills or empties, raises itself or burrows down, speeds or is still;
is the cause at times of life or death, or increase or privation,
nourishes at times and at others does the contrary;
at times has a tang, at times is without savor,
sometimes submerging the valleys with great floods.
In time and with water, everything changes."

--Leonardo da Vinci
 148

Chapter 7
Conclusion

The form of relationship between the government and private entities in

contracting-out the operations of a water public utility run by the government can

be as varied as the human mind can imagine given the liberty to contract, provided

that the terms do not violate the law and public policy. It may be in the form of a

lease contract, a service contract, a management contract, or a concession contract.

The MWSS Concessionaires do not need a franchise to operate.

Usually, a franchise or a certificate of public convenience or certificate of public

convenience and necessity are required for the operation of a public utility.

However, law and jurisprudence provide that a franchise or a certificate of public

convenience or certificate of public convenience and necessity are not at all times

required. First, the MWSS Charter allows the MWSS to approve, regulate, and

supervise the establishment, operation and maintenance of waterworks and

deepwells within its jurisdiction operated for commercial, industrial and

governmental purposes and to fix just and equitable rates or fees that may be

charged to customers thereof. This power serves as the authority delegated by

Congress in order for an administrative agency such as MWSS to regulate the

operation of waterworks within its jurisdiction. Second, the National Water Crisis
 149

Act has allowed the President to privatize the MWSS without any restriction. There

is no express provision that mandates the procurement of a franchise as a pre-

requisite for privatization. Lastly, the Public Service Act has provided exceptions

when a certificate of public convenience or certificate of public convenience and

necessity need not be procured, one of which is when the public service is owned

or operated by any instrumentality of the National Government or by any

government-owned or controlled corporation. Since the ownership of the assets

remains with MWSS, which is a GOCC, there is no need for a certificate of public

convenience or certificate of public convenience and necessity. Moreover, the

Supreme Court held in the case of Albano v. Reyes that franchises issued by

Congress are not required before each and every public utility may operate.

Besides, waiting for a legislative franchise to be passed in order of a public utility

to operate will require unreasonable amount of time. Beside the fact that there are a

lot more important bills to pass each day and that a law in order to be passed

requires three readings, the house also grapples to meet the quorum for each

session. This valuable amount of time wasted, surely will not be conducive and

enticing for investors, especially foreigners.

The term “contractors” as used in the Concession Agreements is vague.

Under the premise that the term “contractor” means an “independent contractor,” it

is hard to imagine that a concessionaire is a contractor because that would mean

 150

that the basis of the agreement is employment of service. It is a concession

agreement and such agreement has a description entirely alien with a contract for

the employment of service. Moreover, it is also not a lease of work or service

because the services to be performed were not ministerial in character. The matters

involved in the Agreement are not of mere manual or mechanical execution. It is a

commercial transaction; a business imbued with public interest.

On the other hand, the term “contractor” may also mean a “contracting

party.” This would mean that the MWSS Concessionaires, being parties to the

Concession Agreements, are contractors in the sense that there are obligations

required of them to perform as provided in the Concession Agreements.

The Concession Agreements are incompatible with the law on agency.

Therefore, the Concessionaires cannot be considered as agents of MWSS.

Under the law on agency every agent is bound to render an account of his

transactions and to deliver to the principal whatever he may have received by virtue

of the agency even though it may not be owing to the principal. No profit is

allowed to the agent. In addition to making an account of the agent’s transaction,

everything that the agent has received by virtue of the agency contract must be

turned over to the principal. It is then up to the principal the amount of

compensation that will be awarded to the agent. The principal must also advance to

the agent, should the latter so request, the sums necessary for the execution of the
 151

agency.

On the other hand, the intention of the Agreements is to allow the

concessionaires to reap profits, provided that the rate of net return shall not exceed

twelve per centum (12%), on a rate base composed of the sum of its assets in

operation as revalued from time to time plus two months' operating capital. There is

also no obligation on the part of the Concessionaires to turn over all the profits to

MWSS. Moreover, the Agreements show that the concessionaires are the ones who

are supposed to finance all the operations, management, and repairs of the facilities

of the MWSS waterworks system.

It is clear from Article 1912 that in an agency agreement, the business must

pertain to the principal, and not to the agent. The principal must finance the

business through the agent. The agent must reimburse any advances made in the

performance of the agency agreement.

In the case of the Agreement, it shows that the concessionaires are the ones

who are supposed to finance all the operations, management, and repairs of the

facilities of the MWSS waterworks system. In fact, the concessionaires are required

to pay a commencement fee and a concession fee.

The MWSS Concessionaires are public utilities themselves.

The fact also remains that the concessionaires are public utilities and should

therefore be within the ambit of laws governing public utilities. They cannot escape
 152

the responsibilities and liabilities provided by law by arguing that as agents, they

are not liable as long as they act within the agreement. As public utilities

themselves, they are personally liable. As held in Tatad v. Garcia, it is the operator

of a public utility that must be subject to public utility regulations. Therefore, an

agency agreement is incompatible in contracting-out the functions of a public

utility because the agents, as operators, must be personally liable under public

utility regulations even if they act within the authority vested by the principal.

Contrary to the most recent MWSS Board Resolution and OGCC legal

opinion, and in accord with jurisprudence, the concessionaires are public utilities.

Firstly, a “public utility” is “a business or service engaged in regularly

supplying the public with some commodity or service of public consequence such

as electricity, gas, water, transportation, telephone or telegraph service.” It is clear

that the business of operated by the concessionaires pertain to regularly supplying

water to customers within their respective service areas. They must insure

uninterrupted 24-hour supply of water. The Agreement provides that the

concessionaires are required to provide water supply services to all existing

customers in their respective services areas. They, in fact, mandated to make a

connection as soon as reasonably practicable.

Secondly, the case of Tatad v. Garcia provides that the operator of a public

service is the one responsible as a public utility. Although the legal title to all

facilities of the concessionaires, other than new assets contributed, pertain to

 153

MWSS, it is clear from the concession agreements that the operation of the

waterworks have been assigned to the concessionaires.

Thirdly, a public utility under the Constitution and the Public Service Law

is one organized “for hire or compensation” to serve the public. Based on the

concession agreements, the services offered by the concessionaires are “for hire or

compensation”. The rate to charge, however, is limited by the agreement. The rates

are provided in order to compensate the concessionaires, as provided in the second

paragraph of Article 9.3.4. Moreover, the agreement also provides that the

concessionaires are responsible for all taxes from any income associated with the

Concession arising on or after the commencement date

It is also clear that under the 1987 Philippine Constitution and the doctrine

enunciated in Albano v. Reyes, the mere absence of a franchise does not strip the

concessionaires the character of a public utility. The absence of franchise is

inconsequential because the contracts entered into by MWSS and the

concessionaires were sufficient authorization for the operation of a public utility.

Again, by the doctrine enunciated in Tatad v. Garcia, the operator of the public

utility is the one within the ambit of public utility regulations. Therefore, it is the

concessionaires themselves that must be considered as public utilities.

Lastly, it is the intention of the drafters of the concession agreement that the

concessionaires must comply with public utility regulations. This is patent on the

warranty of the concessionaires. They stated that the outstanding voting capital
 154

stock of the Concessionaire is at least 60% owned by citizens of the Philippines or

by corporations that are themselves at least 60% owned by citizens of the

Philippines. Furthermore, the nationality requirement set by the 1987 Constitution

for the operation of a public utility was embodied in the notice to bid for the water

service contracts. Thus, the intention to include the concessionaires within the

ambit of public utility regulation is clear right from the beginning.

As public utilities, the MWSS Concessionaires are bound to observe laws and
regulations governing public utilities.

As public utilities themselves, the concessionaires are personally bound to public

utility regulations. This is simply a legitimate exercise of the State’s police power.

Thus, each of the concessionaires is mandated by jurisprudence to set its rate of

return to 12% of the present market value of its assets actually devoted to public

service. Therefore, the stipulation which allows any excess to the 12% cap be

considered as an Expiration Payment and its interest as part of the Appropriate

Discount Rate are obvious attempts to circumvent such limitation.

Public utilities are not allowed to charge income taxes paid as part of

operating expenses. They are also bound to use only their own capital for the

computation of their respective rate of return. These are the doctrines in the 2002

and 2003 cases of Republic v. Manila Electric Company. As public utilities,

therefore, the concessionaires must comply with the Extraordinary Price

 155

Adjustment to be determined by the MWSS Regulatory Office, such

pronouncement being a “change in law, government regulation, rule or order, or

interpretation thereof that affects or is likely to affect the Cash Flow of the

Concessionaire.”

Section 11, Article 12 of the 1987 Philippine Constitution provides for six

consequences of being a public utility:

1. Foreign ownership limitation, which is a maximum of forty per cent

(40%);

2. The franchise, certificate, or authorization shall not be exclusive in

character;

3. The franchise, certificate, or authorization shall not be for a longer

period than fifty (50) years;

4. Any such franchise or right granted shall always be subject to

amendment, alteration, or repeal by Congress when the common

good so requires;

5. The participation of foreign investors in the governing body of any

public utility enterprise shall be limited to their proportionate share

in its capital; and

6. All the executive and managing officers of such corporation or

association must be citizens of the Philippines.

 156

Under the Constitution, the franchise, certificate, or authorization given to a

public utility shall not be exclusive in character. However, by giving the

concessionaires the sole right to manage, operate, repair, decommission and

refurbish the Facilities in the Service Area, including the right to bill and collect

water and sewerage services supplied in the Service Area, the Concession

Agreement blatantly runs counter to the Constitution.

The concessionaires are subject to the Commission on Audit’s authority to

audit public utilities. This is in addition to the MWSS Regulatory Office’s authority

to commission an independent audit of the concessionaire’s books and records.

Lastly, the concessionaires are also within the purview of Sections 17 and

18 of Article 12 of the 1987 Philippine Constitution. Section 17, which refers to

temporary state take over of businesses affected with public interest, provides that

“In times of national emergency, when the public interest so requires, the State

may, during the emergency and under reasonable terms prescribed by it,

temporarily take over or direct the operation of any privately owned public utility

or business affected with public interest.” On the other hand, Section 18, which

refers to nationalization of industries, provide that “The State may, in the interest of

national welfare or defense, establish and operate vital industries and, upon

payment of just compensation, transfer to public ownership utilities and other

private enterprises to be operated by the government.”

 157

"Water is the one substance from which

the earth can conceal nothing;
it sucks out its innermost secrets and
brings them to our very lips."

-- Jean Giraudoux

"The highest good is like water.

Water gives life to the ten thousand things
and does not strive.
It flows in places men reject
and so is like the Tao."

-- Excerpt from the Tao Te Ching,

chapter 8

"It is a fascinating and provocative thought

that a body of water deserves to be considered
as an organism in its own right."

-- Lyall Watson, Supernature

"Whiskey is for drinking;

water is for fighting over."

-- Mark Twain, 1884

 158

Chapter 8
Recommendations

Considering the immense investments involved in the business of public service

and public utility, it is important to have a good grasp of the big picture before

entering into an agreement with any investor. Having a good grasp of the big

picture is not simply making sure that the contract is fair and equitable. Neither is it

just a determination of the capability of investors to perform the obligations under

the contract. There must be a clear understanding of the implications and

consequences coming during and after the actual implementation of the contract.

The business of providing water is imbued with public interest. The

magnitude of the consequences is tremendous as the contract is subject to the ever

binding inherent powers of the State – police power, eminent domain, and taxation.

In case of any ambiguity in the contract, it must always be construed in favor of the

public.

Therefore, the author recommends the revision of the MWSS Concession

Agreements by keeping with the following guidelines:

Make the Concession Agreement as clear as possible.

An ounce of prevention is better than a pound of cure.

There are some ambiguities pointed out in the preceding chapter such as the role of
 159

the Concessionaires as contractors, and whether income taxes are to be considered

as operating expenses in determining the rates that may be charged against the

customers. The clarity of the concession agreement is important because a

controversy involving the determination of any ambiguity will be very costly. The

MWSS Concessionaire Agreements provide that all disagreements, disputes,

controversies or claims arising out of or relating to the Agreement or the

interpretation thereof or any arrangements relating thereto or contemplated therein

or the breach, termination or invalidity thereof (including all decisions by the

Regulatory Office with respect to the Concession) which cannot be resolved

through consultation and negotiation among the parties thereto shall be finally

settled by an arbitration proceedings in accordance with the arbitration rules of the

United Nations Commission on International Trade Law as in effect on the dates of

the Agreement (the “Rules”), except insofar as the Rules conflict with the

provisions of the Agreement.

It is clear therefore that the parties are bound to consult and negotiate first

any disagreement. Thereafter, in case the disagreement is not resolved, the parties

are bound to submit the controversy to arbitration in accordance with the arbitration

rules of the United Nations Commission on International Trade Law. Only after

due process has been exhausted would the winning party ask the local courts to

enforce the award. The local courts, on the other hand, may not allow the

enforcement of the award if it is against public policy, among many other reasons.
 160

If this happens, the whole process will start all over again, this time, with the local

courts. Only after the Supreme Court has decided on the matter will the controversy

be finally over.

However, a recommendation to forego arbitration proceedings will also not

be wise. The good thing with arbitration, despite being more costly, is that the

resolution of a controversy is quicker, unlike the snail-paced but much cheaper

local judicial machinery. But as explained in the preceding paragraph, this

expedient process is not always a guaranty. Besides that, the big cost

accompanying the arbitration proceeding, in the long run, will have to be borne by

the paying public.

Whether arbitration or local courts is the way to go, each one has its

advantages and disadvantages. A long-shot it may seem, making the contract as

clear as possible is the best way of preventing such controversies.

In Concession Agreements, the Concessionaires must never be referred to as

agents.

Being an agent of a principal public utility in the context of a concession agreement

is incompatible with the law on public utilities. The whole terminology makes

contract interpretation more confusing, as these terms bring with them legal

consequences. Being agents, the concessionaires are clearly not responsible for the

liabilities of a public utility, which is its principal. However, an examination of the

 161

responsibilities of the said agents would reveal that they are functioning as public

utilities, despite the misleading label, in accord with current laws and

jurisprudence.

With a concession, the government grants to a private firm or consortium

the exclusive rights to operate, maintain and manage the entire system for an

extended period of time. The basic system is still owned by the public, but the

private concessionaire owns all improvements and extensions. The operating

requirements placed on the private firm are contained in a concession agreement

that details all of the performance expectations that need to be met in order to

maintain the concession in effect. The concessionaire sets the rates for the service

under the regulatory requirements of the government. For the rights to operate the

system and reap the profits from such operations, the private firm may be required

to pay an initial and/or annual concession fee to the government, and to commit to

certain levels of investment over the course of the concession period. The

concession yields total operational responsibility to the private consortium for the

length of the concession without transferring or selling the assets.159

In case the State-owned enterprise functions as a public utility, as in the

case of MWSS, its operations being transferred to a private entity would

necessarily transform the private entity into a public utility itself, because

according to Tatad v. Garcia, it is the operator that is subject to public utility

159
Seader, supra note 46.
 162

regulation, not the owner of the facilities. In other words, there can never be a

legally sound agency agreement in the strictest legal sense for the operation of a

public utility because contrary to the law on agency, the operator or the agent must

be liable to third persons in accord with the law on public utilities.

Make the contract couched on the fact that the concessionaires are public

utilities.

In order to avoid future controversies regarding the interpretation of a concession

agreement, the responsibilities and liabilities of the concessionaires must be in line

with the law on public utilities.

As the protector of its people, the State must see to it that the contract

adheres faithfully to the laws and jurisprudence pertaining to public utilities.

Nevertheless, these statutes and case laws, are deemed included in the contract.

However, as with the first recommendation, clarity is important in order to avoid

extravagant controversies because it is the paying public that will suffer. This

means that, among other regulations, the conditions and consequences provided

under Section 11, Article 12 of the 1987 Philippine Constitution must be met and

therefore the exclusivity clause provided in Section 2.1 of the Concession

Agreement is unconstitutional, the 12% cap on the rate of return must be complied

with, income tax must not be part of operating expenses, and the Commission on

Audit has jurisdiction to audit the concessionaires’ books and records. Moreover,
 163

the concessionaires may subject to either temporary take over by the government

during a national emergency without compensation and/or nationalization of

industries upon payment of just compensation.

Refund payments collected in excess of the statutorily limited rate of return.

It is clear that there is an attempt to circumvent the MWSS Charter limitation by

providing for a payment to the Concessionaire on the Expiration Date a lump-sum

amount designed to reimburse the Concessionaire for all or a portion of such

unforeseen capital expenditure. This lump-sum shall include, among others, the

excess in the 12% limitation. This would mean that the concessionaires will still be

able to earn the excess, albeit subject to the condition that there will be an

unforeseen capital expenditure. This is a blatant circumvention of the MWSS

Charter which does not in any circumstance allow any excess to the 12% limitation

be earned by any means. Worse, the interest of the amount that exceeds the 12%

limitation shall be accrued as the Appropriate Discount Rate (ADR).

Based on the records, it is clear that the concessionaires, especially Manila

Water Inc., have been earning for the past years more than their statutorily allowed

rate of return. Obviously, there may have been some misinterpretation of the law.

Nevertheless, the mistakes of the government’s agents do not estop the State from

claiming the excess. Invoking the principle of unjust enrichment, a refund is called

for.
 164

Proceed with Extraordinary Price Adjustment

The MWSS Regulatory Office (“MWSS-RO”), in March 2004, issued a letter to

the concessionaires notifying them that pursuant to Article 9.3.1 of the Agreement,

it has determined that by reason of a change in law, government regulation, rule or

order, or interpretation thereof, that affects or is likely to affect the Cash Flow of

the Concessionaires, it shall determine the Extraordinary Price Adjustment which

shall be made effective January 1st of the Charging Year 2005. The “change in law,

government regulation, rule or order, or interpretation thereof” pertained to the

decision in Republic v. Manila Electric Company where the Supreme Court upheld

the ruling of the Energy Regulatory Board that income tax should not be treated as

operating expense as this should be “borne by the stockholders who are recipients

of the income or profits realized from the operation of their business” hence, should

not be passed on to the consumers.

The concessionaires opposed the Extraordinary Price Adjustment claiming

that the Republic v. Manila Electric Company ruling is not applicable to them

because they are not public utilities themselves. However, a perusal of applicable

laws and jurisprudence reveal that the concessionaires themselves are public

utilities. Therefore, there is no reason anymore to oppose the Extraordinary Price

Adjustment. It must proceed.

 165

BIBLIOGRAPHY

I. PRIMARY AUTHORITIES

Philippine Constitution, Laws, and Executive Orders

1987 PHILIPPINE CONSTITUTION

Public Service Act, Commonwealth Act 146 (1936)

The New Civil Code of the Philippines, Republic Act No. 386 (1950)

MWSS Charter, Republic Act No. 6234 (1971)

Defining Government-Owned or Controlled Corporations (GOCCs)

And Identifying Their Role in National Development,
Presidential Decree No. 2029 (1986)

Proclaiming and Launching a Program for the Expeditious Disposition

and Privatization of Certain Government Corporations and/or the
Assets Thereof, and Creating a Committee on Privatization and
the Asset Privatization Trust, Proclamation No. 50 (1986)

An Act Authorizing the Financing, Construction, Operation, and

Maintenance of Infrastructure Projects By the Private Sector,
and For the Other Purposes, Republic Act No. 6957 (1990)

An Act Amending Certain Sections of Republic Act No. 6957, Republic

Act No. 7718 (1994)

National Water Crisis Act of 1995, Republic Act No. 8041 (1995)

Water Code of the Philippines, Presidential Decree No. 1067 (1996)

Executive Order No. 286 (1995)

Executive Order No. 311 (1996)

 166

Cases

Philippine Cases

Albano v. Reyes, G.R. No. 83551, July 11, 1989

Bagasting v. Committee on Privatization and Philippine National Oil

Company, G.R. No. 112399, July 14, 1995

Eastern Shipping Lines v. POEA, G.R. No. 76633, October 18, 1988

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JG Summit Holdings, Inc. v. Court of Appeals, G.R. No. 124293,

September 24, 2003

Manila Electric Company v. Public Service Commission, G.R. No. L-

24762, November 14, 1966

North Negros Sugar Co. v. Serafin Hidalgo, G.R. No. L-42334, October
31, 1936

Osmeña v. Orbos, G.R. No. 99886, March 31, 1993

People v. Quasha, G.R. No. L-6055, June 12, 1953

Philippine Airlines, Inc. v. Civil Aeronautics Board and Grand

International Airways, G.R. No. 119528, March 26, 1997

Republic of the Philippines v. Hon. Medina, et. al., G.R. No. L-32068,
October 4, 1971

Republic of the Philippines v. MERALCO, G.R. No. 141314 & 141369,

November 15, 2002

Republic of the Philippines v. MERALCO, G.R. No. 141314, April 9,

2003

Rodolfo B. Albano v. Rainerio O. Reyes, G.R. No. 83551, July 1989

Tablarin v. Gutierrez, G.R. No. 78164, July 31, 1987

 167

Tatad v. Garcia, G.R. No. 114222, April 6, 1995

US v. Piaco, G.R. No. L-15122, March 10, 1920

United States Cases

Commonwealth v. Lafferty, 426 Pa 541, 233 A2d 256 (1967)

Munn v. Illinois, 94 U.S. 113 (1876)

New State Ice Co. v. Liebmann, 285 US 262 (1932)

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Barnes, Irston R. Cases on Public Utility Regulation, New York: Crofts

& Co., 1938.

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Regulation and Regulatory Governance in Developing
Countries: an Overview of the Research Issues, Center on
Regulation and Competition. United Kingdom : University
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David, Cristina C. MWSS Privatization: Implications on the Price of

Water, the Poor, and the Environment. Makati City:
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Doing Business in the Philippines. Makati City:

Pricepowerhousecoopers, 2002.

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World's Largest Water Privatization. Washington D.C.: The
 168

World Bank, 2000.

Haveman, Robert H. Water Resource Investment and the Public

Interest: An Analysis of Federal Expenditures in Ten
Southern States. Nashville: Vanderbelt University Press,
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Jordan, Bradford D. Fundamentals of Investments: Valuation &

Management, Boston: McGraw-Hill/Irwin, 2002.

Kagami, Matsushiro. Privatization, Deregulation, & Institutional

Framework. Tokyo: Institute of Development Economics,
1999.

Kuit, M., de Jong, M., Mayer, I. (Re)Designing Regulatory Regimes for

Utility Sectors, Netherlands: Delft University of Technology.

Polinsky, A. Mitchell. An Introduction to Law and Economics.

Gaithersburg, Md.: Aspen Publishers, 2003.

Prokopenko, Joseph. Management for Privatization: Lessons from

Industry & Public Service. Geneva: International Labor
Office, 1995.

Trachsel, Herman Henry. Public Utility Regulation. Chicago: R.D.

Irwin, 1947.

Vea, Reynaldo. MWSS and the El Nino Episode of 1997-98. Makati

City: Metropolitan Water-works and Sewerage System,
2000.

Vernon, Raymond, The Promise of Privatization, New York: Council of

Foreign Relations, 1988.

Thesis Works and Papers

Blue Drop Campaign Position Papers from the Freedom from Debt
Coalition.

Juan, ShyAnne T. Analyzing the Philippine Privatization Policy & its

Implication on Human Rights Violations. JD Thesis, Ateneo
 169

de Manila University, 2006.

Articles, Essays, Reviews

Capuno, Joseph. An Analysis of the Developmental Impact of Certain

Judicial Action: A case of Judicial Reform.

Chotrani, Raj. Lessons from Philippine Water Privatization. Asianwater,

1999.

Guasch, J.L. & Hahn, R.W. The Costs and Benefits of Regulation:
Implications for Developing Countries. 14 World Bank
Research Observer 1, 137-158 (1999).

Jacobs, Scott. Private Interest v. Public Good: Governance Dimensions

of Regulatory Frameworks for Private Infrastructure
Development. from the proceedings of an ADB/OECD
Seminar, Geneva 1998.

Lazaro, A. Macleod, S. & Vigilar, G. Privatization: Philippine Water

Industry Comes of Age. 2000.

Majone G. From the Positive to the Regulatory State: Causes and

Consequences of Changes in the Mode of Governance. 17
Journal of Public Policy 139-67 (1997)

MCI WorldCom, Quantum DDB Philippines Inc. Brand Review, April

15, 1999.

Messick, R. Judicial Reform and Economic Development: A Survey of

the Issues. 14 The World Bank Research Observer 1 (1999).

Murray, Bruce. Opening Remarks. Forum on Private Sector

Participation in Public Utilities, 7 Dec. 2002, Asian
Development Bank.

Stern, Jon. Private Interest v. Public Good: Governance Dimensions of

Regulatory Frameworks for Private Infrastructure
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 170

Wu, Gordon. Private Interest v. Public Good: Governance Dimensions

of Regulatory Frameworks for Private Infrastructure
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Philippines, available online URL
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for Policy and Institutional Reform, available online URL
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Sanitation, available online URL
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htm (Accessed December 9, 1999).

Ortile, Lauro. Privatization in the Philippines, available online URL
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the Poor (2001), available online URL
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 172

APPENDIX I :
THE CONCESSION AGREEMENT
 173

CONCESSION AGREEMENT

THIS CONCESSION AGREEMENT, dated as of February 1997, (this “Agreement”) is

made between the Metropolitan Waterworks and Sewerage System (“MWSS”), a government corporation
organized and existing pursuant to Republic Act No. 6234, as amended, (the “Charter”), and Manila Water
Company, Inc. a corporation organized and existing under the laws of the Philippines (the “Concessionaire”).

WHEREAS, pursuant to the Charter MWSS has jurisdiction, supervision and control over all
waterworks and sewerage systems within Metropolitan Manila, the entire province of Rizal and a portion of the
province of Cavite; and

WHEREAS, pursuant to Republic Act No. 8041 (the “ National Water Crisis Act of 1995”), as
implemented by Executive Order 286 (December 6, 1995 and Executive Order 311 (March 20, 1996), MWSS
was mandated to enter into arrangements that will result in the involvement or participation of the private sector
in any or all the segments, operations and/or facilities of the MWSS:

WHEREAS, Article 3(j) of the Charter authorizes MWSS, among other things, to dispose of real and
personal property, including rights and franchises, consistent with the purpose for which MWSS was created
and reasonably required for the transaction of the lawful business of the same;

WHEREAS, MWSS has determined to grant concessions to private sector corporations, at least 60%
of the outstanding capital stock of which is owned and controlled by Philippine nationals, which shall act as
contractors to perform certain functions, and as agents for the exercise of certain rights and powers, of MWSS
under its Charter, operate the system of waterworks and sewerage services referred to in the Charter;

WHEREAS, pursuant to a process of open public bidding and selection, the Concessionaire has been
awarded the right to enter into Agreement with respect to the Service Area East, as identified in Schedule 1
hereto (the “Service Area”); and

WHEREAS, MWSS and the Concessionaire wish to record the terms on which the Concessionaire is
being granted the right to operate the waterworks and sewerage services in the Service Area for the period
specified herein;

NOW, THEREFORE, in consideration of the mutual promises and undertakings described herein,
the parties hereto agree as follows:

ARTICLE 1. DEFINITIONS

When used herein, the following terms shall have the meanings ascribed to those terms below:

“Appeals Chairman” means the chairman for the time being of the Appeals Panel.

“Appeals Panel” has the meaning given to that term in Section 12.2 hereof.

“Appropriate Discount Rate” means, at any time, the real (i.e., not inflation adjusted) weighted
average cost of capital (after taxes payable by the concession business). In determining the Appropriate
Discount Rate, the Regulatory Office shall apply conventional and internationally accepted methods, and in
particular shall make estimates of the cost of debt in domestic and international markets, the cost of equity for
utility businesses in the Philippines and abroad and shall make adjustments to such estimates to reflect country
risk, exchange rate risk and any other project risks. The
Regulatory Office, at its sole discretion, may consider the Concessionaires rate of return, either stated or
implied in its bid, in determining the Appropriate Discount Rate.

“Asset Condition Report” has the meaning given to that term in Section 6.5.2 hereof.
 174

“Bulk Water” means any water supplied in bulk.

“C” means the percentage change in the Consumer Price Index for the Philippines as published by
the National Statistical Office between July of the Weighting Year and July of the Prior Year.

“Cash Flows” means (i) in the context of historical cash flows, both Receipts and Expenditures
efficiently and prudently incurred by the Concessionaire in the course of carrying out its obligations under this
Agreement, and (ii) in the context of future cash flows, (A) both anticipated Receipts and Expenditures
efficiently and prudently incurred by the Concessionaire in the course of carrying out its obligations under this
Agreement and (B) from and after the second Rate Rebasing Date, any Expiration Payment agreed to be paid
by MWSS to the Concessionaire on the Expiration Date pursuant to Section 9.4.3; it being understood that
Expenditures “efficiently and prudently incurred” does not include, among other things, payments for (X)
Disapproved Assets or (Y) fees for management or consulting services required by the Concessionaire in
order to carry out its obligations under this Agreement payable to any shareholder or affiliate of the
Concessionaire to the extent, in the judgment of the Regulatory Office, that such fees do not represent the best
value available in the market for such services.

“CERA” means the Currency Exchange Rate Adjustment of one Peso per cubic meter of water
consumed above the Standard Rates as permitted by Section 9.1.

“Charging Year” means any year beginning on January 1 following the first anniversary of the
Commencement Date.

“Charter” means the Charter of the MWSS set out in Republic Act No. 6234 (as amended), as the
same may be further amended or supplement from time to time.

“Closing Date” means May 6, 1997, or such later date (not to exceed September 30, 1997) on which
the conditions set out in Article 15 hereof have been satisfied.

“Commencement Date” means the day immediately following the Closing Date.

“Common Purpose Facilities” means the Facilities upstream of Angat dam established under the
UATP project and the Facilities downstream of the auxiliary hydropower plant of Norzagaray, Bulacan,
including the Ipo reservoir facilities, the Ipo-Bicti tunnels Bicti basins and Bicti-Novaliches aqueducts, up to
and including the Novaliches portal interconnection Facilities.

“Concession” has the meaning given to that term in Section 2.1 hereof.

“Concessionaire Event of Termination” has the meaning given to that term in Section 10.2.

“Concession Fee” has the meaning given to that term in Section 6.4 hereof.

“Concessionaire” means Manila Water Company, Inc.

“Concessionaire Employee” has the meaning given to that term in Section 3.1 hereof.

“Concessionaire Loans” means any indebtedness incurred by the Concessionaire to finance or

refinance the construction or refurbishment of the Facilities, or employee severance costs or other transitional
costs incurred by the Concessionaire following the Commencement Date related to the Concession.

“Concession Lenders” means the providers of the Concessionaire Loans.

“ Connection” has the meaning given to that term in Section 9.5 hereof.

“Connection Charge” has the meaning given to that term in Section 9.5 hereof.
 175

“Consumer Price Index” or “CPI” means, for any year, the Consumer Price Index for the
Philippines for that year published by the National Statistical Office of the Republic or such successor index as
the parties may agree pursuant to Section 2.4.

“Cost Overruns” means any amount paid by the Concessionaire related to an Existing Project or
UATP, which is neither covered by an MWSS Loan or identified as Local Component costs in Schedule 9.

“Customer” means (i) as of the date hereof, any customer of MWSS or (ii) thereafter, any customer
of the Concessionaire, in each case for the supply of water and/or sewerage services in the service Area.

“Disapproved Assets“ means any assets acquired by the Concessionaire following the
Commencement Date which are not, in the reasonable opinion of the Regulatory office, needed for the efficient
and prudent performance by the Concessionaire of its obligations under this Agreement and are so identified in
a writing sent to the Concessionaire by the Regulatory Office.

“Dispute Notice” has the meaning given to that term in Section 12.4 (i) hereof.

“E” means any Extraordinary Price Adjustment determined in accordance with Section 9.3.

“Early Retirement Incentive Package” means the separation package approved by the Board of
Trustees of MWSS pursuant to its resolutions numbered 24-96 dated February 3, 1996 and 68-96 dated April
18, 1996 (providing for computation of benefits based on creditable service in Government).

“Early Termination Amount” has the meaning given to that term in Section 10.3.2.

“Early Termination Date” has the meaning given to that term in Section 10.3.1.

“ESOP” has the meaning given to that term in Section 6.1.4

“ESOP Shares” has the meaning given to that tem in Section 6.1.4(i)

“Event of Force Majeure” has the meaning given to that term in Section 16.10.1

“Existing Projects” means the projects (or any separable component or project, including only the
non-revenue water component of the Umiray Angat Transbasin Project) in the Service Area identified in
Schedule 9, which have been funded by MWSS from bilateral or multilateral sources prior to the
Commencement Date.

“Expenditures” means pre-operating and operating expenditures, capital maintenance and

investments expenditures, Concession Fees and Philippine business taxes of the Concessionaire (including the
Concessionaire’s portion of any such items incurred by the Joint Venture), excluding penalties, interest charges
on late payments, financing costs, bad debt provisions and depreciation provisions.

“Expiration Date” means May 6, 2022.

“Expiration Payment” has the meaning given to that term in Section 9.4.4.

“Extraordinary Price Adjustment” has the meaning given to that term in Section 9.3 hereof.

“Facilities” means all fixed and movable assets, including Movable Property, required to provide
water delivery services and sewerage services in the Service Area but excluding the Retained Assets. For
purposes of this definition, it is understood that the Magallanes Sewerage Treatment Plant and related
infrastructure shall be a Facility of Service Area East, and the Central Collecting System and related
infrastructure shall be a Facility of Service Area West.

“Future Cash Flows” means, for any Rate Rebasing Date, Cash Flows of the Concessionaire
expected to arise after such Rebasing Date in the course of carrying out its obligations under the Concession
 176

Agreement as at such Rebasing Date, excluding any revision to those obligations that has been the subject of
an Extraordinary Price Adjustment determination due to come into effect on such Rebasing Date.

“Grounds for an Extraordinary Price Adjustment” or “GEA” has the meaning given to that term
in Section 9.3.1 hereof.

“IPO” has the meaning to that term in Section 6.4.1 (ii).

“Interconnection Agreement” has the meaning to that term given in Section 6.3

“International Water Operator” Means United Utilities PLC.

“Inventory” means the spare parts, pipes and accessories, pumps, meters and other similar items
owned by MWSS just prior to the Commencement Date related to the Service Area, and any other terms
allocated to the Concessionaire by MWSS prior to bidding on the Concession from the shared facilities with the
Other Operator, as set forth in the document captioned “Summary of Construction Materials/Office Supplies”,
undated December 2, 1996.

“Joint Venture” means the joint venture arrangement to be entered into by the Concessionaire and
Other Operator pursuant to Section 3.8 hereof.

“KKMK” has the meaning given to that term in Section 6.1.1(v).

“LBT” means the La Mesa/Balara Tunnel project-4. Notwithstanding the geographical location of
the LBT project, it shall be treated as an Existing Project of Service Area East.

“Local Component” means the scheduled costs associated with an Existing Project of the UATP
project which is not covered by an MWSS Loan.

“Low-income Customers” means Customers with an annual household income of P50,000 or less,
which amount shall automatically be adjusted on January 1st of each year by the percentage change in the
Consumer Price Index for the preceding year.

“Major Dispute” has the meaning given to that term in Section 12.4 (ii).

“Minor Dispute” has the meaning given to that term in section 12.4(ii).

“Movable Property” means the vehicles, furniture, maintenance equipment, computers and other
similar items owned by MWSS just prior to the Commencement Date related to the Service Are, and any items
allocated to the Concessionaire by MWSS prior to bidding on the Concession from the shared facilities with the
Other Operator, as such property shall be designated by MWSS in the document captioned “General
Administration Equipment, Physical Inventory,” undated, distributed December 2, 1996.

“MWSS” means the Metropolitan Waterworks & Sewerage System.

“MWSS Event of Termination” has the meaning given to that term in Section 10.1.

“MWSS Loans” means the indebtedness listed in Schedule 8 hereto for which MWSS is the primary
obligor.

“MWSSSA” means the MWSS Supervisors Association.

“NAPOCOR” means the National Power Corporation, a Government owned and controlled
corporation organized and existing under Republic Act No. 6395, as amended.

“National Building Standards” means the building standards promulgated or issued pursuant to the
National Building Code (Presidential Decree No. 1096, as amended) and related laws, rules and regulations.
 177

“Net Present Value” means the net present value calculated at a specified date by discounting real
Cash Flows expected to occur at and subsequent to that date, and inflating real Cash Flows occurring prior to
that date, at the Appropriate Discount Rate, using the same discount rate for Cash Flows occurring at any point
during any calendar year.

“New Third Party License” has the meaning given to that term in Section 5.3.

“NIA” means the National Irrigation Administration.

“NWRB” means the National Water Resources Board.

“Opening Cash Position” means (i) with respect to the first Rate Rebasing Date, the Net Present
Value as at June 30 following such Rate Rebasing Date of the real Cash Flows occurring between the
Commencement Date and such Rate Rebasing Date in connection with the Concessionaire’s carrying out its
obligations under this Concession Agreement using the Appropriate Discount Rate determined as of the
Commencement Date and (ii) with respect to any subsequent Rate Rebasing Date, the Net Present Value as at
June 30 following such Rate Rebasing Date of Cash Flows occurring since the last Rate Rebasing Date together
with the Opening Cash Position determined with respect to the last Rate Rebasing Date in connection with the
Concessionaire’s carrying out its obligations under this Concession Agreement, using the Appropriate Discount
Rate determined at the last Rate Rebasing Date. For purposes of calculating the Opening Cash Position, any
prior negative Rebasing Convergence Adjustments shall be deemed to have been applied in full in the first
Charging Year of the Respective Rate Rebasing period, and not over the five year period set forth in Section
9.4.3 (ii).

“Other operator” means Benpres-Lyonnaise Waterworks, Inc., in its capacity as the concessionaire
appointed pursuant to that certain agreement captioned “Concession Agreement (Service Area West),”
between MWSS and Benpres-Lyonnaise Waterworks, Inc., dated as of the date hereof.

“Other Operator Employee” has the meaning given to that term in Section 3.1 hereof.

“Other Service Area” means the area in which the other Operator shall provide water and sewerage
services in its capacity as the concessionaire pursuant to that certain agreement captioned “Concession
Agreement (Service Area West)” between MWSS and Benpres-Lyonnaise Waterworks, Inc., dated as of the
date hereof.

“Performance Bond” has the meaning given to that term in Section 6.9 hereof.

“Pesos” or “P” refers to the lawful currency of the Republic of the Philippines.

“Peso Equivalent” has the meaning given to that term in Section 6.4.

“Prior Year” means the year beginning on the first day of January of the year prior to the
commencement of each Charging Year.

“Qualified Replacement Operator” means a corporation, or a consortium of corporations, (i) that

has the technical and financial capacity to perform all of the obligations of the Concessionaire under this
 178

Agreement and (ii) that meets the requirements of Philippine law concerning foreign ownership and
management of a public utility.

“R” means any Rebasing Convergence Adjustment determined in accordance with Section 9.4.3.

“Rates Adjustment Limit” means the percentage, either positive or negative, equal to the sum of C,
E and R.

“Rate Rebasing Date” means each of January 1, 2003, January 1, 2008, January 1, 2013 and January
1, 2018.

“Rate Rebasing Period” means, in the case of the first Rate Rebasing Period, the period
commencing on the Commencement Date and ending on December 31,2002, and, in the case of subsequent
Rate Rebasing Periods, the period commencing on the last Rate Rebasing Date and ending on December 31 of
the fifth year thereafter; provided, however, that the last Rate Rebasing Period shall end on the Expiration
Date.

“Raw Water” means any untreated water.

“Raw Water Dispute” has the meaning given to that term in Section 12.4 (iv) hereof.

“Rebasing Adjustment” has the meaning given to that term in Section 9.4.2.

“Rebasing” Convergence Adjustment” has the meaning given to that term in Section 9.4.3.

“Rebasing Dispute” has the meaning given to that term in Section 12.4(iii).

“Receipts” means all cash receipts from Customers and grants from third parties (including from the
Republic) to the Concessionaire, excluding any interest and dividends received by the concessionaire.

“Regulatory Office” has the meaning given to that term in Section 11.1 hereof.

“Republic” means the Republic of the Philippines.

“Retained Assets” means those assets that are retained by MWSS following the Closing Date,
which are set forth in the document captioned “Allocation of Fixed Assets,” dated December 6, 1996.

“Retained Employee” has the meaning given to that term in Section 3.1 (i).

“Rules” means the arbitration rules of the United Nations Commission on International
Trade Law as in effect on the date of this Concession Agreement. “Service Area” means the area
identified as Service Area East on the map attached to Schedule 1 hereto, and “Service Area West”
means the areas identified as such on the map attached to Schedule 1 hereto.

“Service Area Loans” means the credits listed in Schedule 8 hereto for which MWSS is the
primary obligor.
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“Service Obligations” mean the obligations of the Concessionaire of the kind referred to in Article 5
hereof, as such Service Obligations may be revised from time to time by the Regulatory Office in accordance
with this Agreement.

“Shared Facilities” has the meaning given to that term in Section 3.11.

“Sponsor” means Ayala Corporation.

“Standard Rates” mean the rates set out in Schedule 5 hereto for the supply of water and sewerage
services in the Service Area from the Commencement Date, as amended from time to time in accordance with
the provisions of Article 9.

“Technical Submission” means the concessionaire’s technical submission submitted to

MWSS on January 6, 1997 in connection with the bidding for the Concession.

“Termination Date” means the Expiration Date or the Early Termination Date, as the case may be.

“UATP” means the Raw Water conveyance component of the Umiray Angat Transbasin Project, as
described in Schedule 9.

“Undertaking Letter” has the meaning given to that term in Section 15.3 (iii)(d).

“Weighted Average Rates Increase” means the percentage difference, either positive or negative,
between (i) the revenue that would have accrued to the Concessionaire in the Weighting Year had the Standard
Rates to be applied in the Charging Year been applied in the Weighting Year and (ii) the revenue that would
have accrued to the Concessionaire in the Weighting Year had the Standard Rates applied by the
Concessionaire or, as the case may be, MWSS in the Prior Year been applied in the Weighting Year.

“Weighting Year” means the year beginning on the first day of January two years prior to the
commencement of each charging year.

ARTICLE 2. APPOINTMENT

2.1 Grant of Concession

On the terms and subject to the conditions set forth herein, MWSS hereby grants to the
Concessionaire, as contractor to perform certain functions and as agent for the exercise of rights and powers
under the Charter, the sole right to manage, operate, repair,
Decommission and refurbish the Facilities in the Service Area, including the right to bill and collect water and
sewerage services supplied in the Service Area (the “Concession”). The Concessionaire shall perform its
functions and exercise its rights under this Agreement directly or, in respect of functions and rights delegated to
the Joint Venture. The rights and benefits of the Concessionaire under this Agreement shall be deemed to
apply with equal force to the Joint Venture to the extent that the Joint Venture is performing functions
delegated to it under this Agreement.

2.2 Acceptance of Appointment

On the terms and subject to the conditions set forth herein, the Concessionaire hereby accepts the
Concession and its appointment as the Concessionaire hereunder.

2.3 Terms of Appointment

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The Concession shall take effect on the Commencement Date and, subject to the provisions of Article
10 hereof, shall continue in effect until the Termination Date.

2.4 Consumer Price Index Adjustments

In the event that the Concessionaire and the Regulatory Office determine that the CPI is for any
period not an accurate reflection of the rate of inflation in the Philippines as it relates to this Agreement, the
Concessionaire and the Regulatory Office may select an alternative index.

ARTICLE 3. TRANSITIONAL ARRANGEMENTS

3.1 Designation of Employees

(i) Prior to bidding on the Concession, MWSS shall have provided the Concessionaire with a
list of MWSS permanent employees (and salary/benefit levels/length of service) who shall
be hired by the Concessionaire effective on the Commencement Date (each a
“Concessionaire Employee”) and a list of MWSS permanent employees who shall be hired
by the Other Operator effective on the Commencement Date (each an “Other Operator
Employee”). The list of prospective Concessionaire Employees and the Other Operator
Employees shall be updated at the reasonable Discretion of the Administrator of MWSS
within 30 days of the signing hereof such that all current permanent employees of MWSS
shall have been designated as either a Concessionaire Employee, Other Operator Employee
or retained employee of MWSS (each, a “Retained Employee”). The Concessionaire shall
not, without the consent of the Other Operator, hire any Other Operator Employees during a
period of one year after the Commencement Date.

(ii) MWSS shall, within 15 days of the Commencement Date, Supply the Concessionaire with
information sufficient to permit the Concessionaire to calculate its maximum exposure for
severance payments under Section 6.1.2 below.

3.2 Liabilities/Revenues

MWSS shall bear all liabilities, including the collection of accounts receivable, contingent liabilities
relating to environmental contamination, and shall (subject to Section 3.4) be entitled to receive and to retain all
revenues, arising out of the operation of the Facilities prior to the Commencement Date. MWSS shall, on the
Commencement Date transfer to the concessionaire all Customer deposits then held by MWSS for Customers
in the Service Area.

3.3 Conduct of the Business Pending the Closing

MWSS hereby covenants that, from the date hereof and until the Commencement Date, unless the
Concessionaire shall otherwise consent in writing (which consent shall not unreasonably be withheld), MWSS
shall conduct the business and operations of MWSS in the ordinary and usual course in a manner consistent
with past best practice and, without limiting the generality of the foregoing, MWSS shall:

(i) use its reasonable efforts to preserve and maintain the Facilities and Inventories;

(ii) maintain in accordance with its normal best practices all documents, agreements, contracts
and other corporate records of MWSS relevant to its business and operations;

(iii) at all times comply with all material laws, statutes, rules, regulations, orders and directives
of any governmental authority having jurisdiction over MWSS or its businesses, except in
cases where the application thereof is being contested in good faith or is the subject of an
appeal or other legal challenge;
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(iv) give prompt written notice to the Concessionaire of the commencement of any dispute or
proceeding between MWSS and any governmental body which, if determined adversely to
MWSS, could reasonably be expected to have a material adverse effect on MWSS business
or financial condition; (b) the occurrence of any material event of default in any material
agreement of MWSS or any event which, upon a lapse of time or the giving of notice or
both, would become a material event of default under any such agreement; and (c) the
occurrence of any other event which has or could reasonably be expected to have a material
adverse effect on MWSS’ business or financial condition;

(v) not waive any valuable right owed to MWSS or enter into any material contract which could
affect the Concessionaire; or

(vi) not reorganize departments or otherwise its organizational structure or employee salaries or
benefits in any material fashion, other than any such reorganization consistent with the terms
hereof.

3.4 Accounts Receivable

Until the first anniversary of the Commencement Date, the Concessionaire shall have the exclusive
right to collect any accounts receivable from Customers for water and sewerage services outstanding as of the
Commencement Date. The Concessionaire shall remit to MWSS, on a monthly basis, all amounts collected in
respect of such accounts receivable less a collection fee of (i) for any receivable that has been outstanding for
60 days or less as of the Commencement Date, a fee equal to 3% of the amount collected and (ii) for any
receivable that has been outstanding for more than 60 days as of the Commencement Date, a fee equal to 6% of
the amount collected.

3.5 Inventory

Effective on the Commencement Date, the Concessionaire shall have the Right to use any items of
Inventory in carrying out its responsibility under the Concession. Any consumable items owned by MWSS and
inventory not identified for use by the Concessionaire shall be subject to the retention or disposal by MWSS
and the applicable rules and procedures of the Commission on Audit shall be complied with in the event of any
such disposition of assets by MWSS.

3.6 Movable Property

Legal title to all Movable Property in existence at the Commencement Date shall be retained by
MWSS. The Concessionaire is hereby granted the right to operate, maintain in good working order, repair,
decommission and refurbish the Movable Property required to provide the water and sewage services under this
Agreement; provided, however, that upon expiration of the useful life of any such Movable Property as maybe
determined by the Concessionaire, such Movable Material shall be returned to MWSS in its then-current
condition at no charge to MWSS or the Concessionaire.

3.7 Commencement Fee

The Concessionaire shall pay a commencement fee of U.S. $5 Million to MWSS on the
Commencement Date.

3.8 Joint Venture

Prior to the Commencement Date, the Concessionaire and Other Operator shall enter into a joint
venture arrangement in such form as they shall select (e.g., a contractual arrangement, a special purpose
company incorporated in the Philippines or other arrangement) (the “Joint Venture”)` subject to the approval of
MWSS to assure that (i) the Joint Venture arrangement identifies the party which shall bear each material
responsibility and liability of the Joint Venture and (ii) the Joint Venture enters into appropriate contractual
undertakings with MWSS regarding the Common Purpose Facilities (including recourse to the Performance
Bonds of the Concessionaire and the other Operator). The Joint Venture shall have the responsibility to:
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(i) operate, maintain, renew and, as appropriate, decommission the Common Purpose Facilities
in a manner consistent with the National Building Standards and best industrial practices so
that, at all times, the water and sewerage system in the Service Area is capable of meeting
the Service Obligations (as such obligations may be revised from time to time by the
Regulatory Office following Consultation with the Concessionaire); and

(ii) perform such other functions relating to the Concession (and the Concession of the Other
Operator) as the Concessionaire and the Other Operator may choose to delegate to the Joint
Venture, subject to approval by MWSS.

In addition, the Concessionaire and the Other Operator shall enter into bilateral arrangements relating
to the billing and collection for any services provided by either of them in the other’s Service Area and
interconnection arrangements as provided in Section 6.3.

3.9 Raw Water Supplies

(i) Arrangements with respect to the terms and conditions of the supply of Raw Water to the
Concessionaire and the Other Operator are set forth in the letter from MWSS to NWRB
dated November 27, 1996, which letter was acknowledged and approved by the MWSS
Board of Trustees on December 2, 1996.

(ii) Whenever MWSS receives notice of meeting with NWRB at which an issue affecting the
Concessionaire is scheduled to be discussed, MWSS shall promptly give the Concessionaire
notice of that meeting and shall make all reasonable efforts to permit a representative of the
Concessionaire to attend such meeting and to express views on behalf of MWSS. On any
issue put to vote at any such meeting which affects only the Concessionaire and not the
Other Operator, MWSS shall vote in a manner consistent with the Concessionaire’s interest.
On any issue which affects both the Concessionaire and the Other Operator, MWSS shall
vote in such manner as consistent with the interests of the Concessionaire and the Other
Operator.

3.10 Cash and Marketable Securities

MWSS shall retain, and not transfer to the Concessionaire, all cash and Marketable
securities in existence on the Commencement Date.

3.11 Shared Facilities

The Concessionaire and Other Operator shall have equal access to those MWSS facilities involved in
the provision of water supply and sewerage services in both Service Area East and Service Area West
including, but not limited to, the MWSS management information system, billing system, telemetry system,
central control room and central records (the “Shared Facilities”)

MWSS shall also make its corporate headquarters available to the Concessionaire and the Other
Operator during one-year period beginning on the Commencement Date (subject to renewal with the consent of
all parties).
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ARTICLE 4. REPRESENTATIONS AND WARRANTIES

4.1 Representations and Warranties of MWSS

MWSS hereby represents and warrants to the Concessionaire as follows:

4.1.1 Corporate Organization

MWSS is a government corporation duly organized, validly existing and in good standing
under the laws of the Republic.

4.1.2 Authorization

MWSS has full power and authority to execute and deliver this Agreement and to
consummate the transactions contemplated hereby. The execution and delivery of this Agreement by
MWSS and the consummation by MWSS of the transactions contemplated hereby have been duly
authorized by all necessary action of MWSS and no further action or proceeding on the part of
MWSS is necessary to authorize the execution and delivery by MWSS of this Agreement or the
consummation by MWSS of the transactions contemplated hereby. This Agreement has been duly
executed and delivered by MWSS and has been approved by the President of the Republic and, under
the laws of the Republic in effect as of the date of this Agreement, is a legal, valid and binding
obligation of MWSS, against MWSS in accordance with its terms.

4.1.3 No violations: No Consents or Approvals Required

(i) Neither the execution and delivery of this Agreement nor the transactions contemplated
hereby will (a) conflict with or violate any provision of the Charter, (b) conflict with or
violate any law, rule, regulation, ordinance, order, writ, injunction, judgment or decree
applicable to MWSS or by which any of MWSS properties or assets are bound or affected
or (c) conflict with or result in any breach or constitute a default (or an event which with
notice or lapse of time or both would become a default) under, or give to others any rights
of termination, cancellation or acceleration of, or result in the creation of any lien, charge
or encumbrance on any of its assets or properties pursuant to any of the terms, conditions or
provisions of any note, bond, mortgage, indenture, permit, license, franchise, contact,
agreement or other instrument or provisions of, any note, bond, mortgage, indenture,
permit, license, franchise, lease, contract, agreement or other instrument or obligation to
which MWSS is a party or by which MWSS or any of its properties or assets is bound or
affected.

(ii) Except for the approval of the President of the Republic referred to in Section 4.1.2 above,
no notice, declaration, report or other filing or registration with, and no waiver, consent,
approval or authorization of, any governmental or regulatory authority or instrumentality is
required to be submitted, made or obtained by MWSS in connection with the execution,
delivery or performance of this Agreement by MWSS and the consummation of the
transactions contemplated hereby.

4.1.4 Financial Statements

The financial statements of MWSS for the fiscal year ending December 31, 1995,
previously provided to the Concessionaire, fairly present the financial position of MWSS as of such
dates and the results of operations of MWSS for the periods covered by those statements. Since
December 31, 1995 there has been no materials adverse change in the business, financial position,
results of operations or prospects of MWSS. (The representation and warranty contained herein will
be deemed to be repeated as of the Closing Date with reference to the financial statements of MWSS
dated December 31, 1996). In addition, the disaggregated pro forma statements with respect to the
Concession, the Other Service Area and the retained functions of MWSS previously provided to the
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Concessionaire have been prepared in a manner consistent with generally accepted accounting
principles in the Philippines.

4.1.5 Brokers and Finders

Neither MWSS, nor any of its officials or employees, has incurred any liability for any
brokerage fees, commissions, finders’ fees or similar fees or Expenses in connection with the
transactions referred to in its Agreement for which the Concessionaire may be liable.

4.1.6 NO OTHER REPRESENTATIONS OR WARRANTIES

EXCEPT FOR THE REPRESENTATIONS AND WARRANTIES CONTAINED IN THIS

ARTICLE 4, NEITHER MWSS NOR ANY PERSON ACTING FOR MWSS MAKES ANY
OTHER REPRESENTATION OR WARRANTY, EXPRESS OR IMPLIED, AND MWSS
HEREBY DISCLAIMS ANY SUCH REPRESENTATION OR WARRANTY, WHETHER BY
MWSS OR ANY OF ITS OFFICIALS, EMPLOYEES, AGENTS OR REPRESENTATIVES OR
ANY OTHER PERSON, WITH RESPECT TO THE EXECUTIONNN, DELIVERY OR
PERFORMANCE BY MWSS OF THIS AGREEMENT OR WITH RESPECT TO THE
TRANSACTIONS CONTEMPLATED HEREBY, NOTWITHSTANDING THE DELIVERY OR
DISCLOSURE TO THE CONCESSIONAIRE OR ANY OF ITS OFFICERS, DIRECTORS,
EMPLOYEES, AGENTS OR REPRESENTATIVES OR ANY OTHER PERSON OF ANY
DOCUMENTATION OR OTHER INFORMATION (FINANCIAL OR OTHERWISE) BY MWSS
OR ANY OF ITS OFFICIALS, EMPLOYEES, AGENTS OR REPRESENTATIVES OR ANY
OTHER PERSON WITH RESPECT TO ANY ONE OR MORE OF THE FOREGOING.

4.2 Representations and Warranties of the Concessionaire

The Concessionaire hereby represents and warrants to MWSS as follows:

4.2.1 Corporate Organization

The Concessionaire is a corporation duly organized, validly existing and in good standing
under the laws of the Republic of the Philippines. The Concessionaire has full corporate power and
authority to carry on its business as required under the terms of this Agreement and is duly qualified
to do business in all jurisdictions where the ownership of its assets or the conduct of its business
requires such qualification. The outstanding voting capital stock of the Concessionaire is at least 60%
owned by citizens of the Philippines or by corporations that are themselves at least 60% owned by
citizens of the Philippines.

4.2.2 Authorization

The Concessionaire has full power and authority to execute and deliver this Agreement and
to consummate the transactions contemplated hereby. The execution and delivery of this Agreement
by the Concessionaire and the consummation by the Concessionaire of the transactions contemplated
hereby have been duly authorized by all necessary action of the Concessionaire and no further action
or proceeding on the part of the Concessionaire is necessary to authorize the execution and delivery
by the Concessionaire of this Agreement or the consummation by the Concessionaire of the
transactions contemplated hereby.
This agreement has been duly executed and delivered by the Concessionaire and is a legal, valid and
binding obligation of the Concessionaire, enforceable against the Concessionaire in accordance with
its terms.

4.2.3 No Violations; No Consents or Approvals Required

(i) Neither the execution and delivery of this Agreement nor the transactions contemplated
hereby will (a) conflict with or violate any provisions of the Articles of Incorporation or
By-Laws of the Concessionaire, (b) conflict with or violate any law, rule, regulation,
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ordinance, order, writ, injunction, judgment or decree applicable to the Concessionaire or

by which any of the Concessionaire properties or assets are bound or affected or (c) conflict
with or result in any breach or constitute a default (or an event which with notice or lapse
of time or both would become a default) under, or give others any rights of termination,
cancellation or acceleration of, or result in the creation of any lien, charge or encumbrance
on any of its assets or properties to any of the terms, conditions or provisions of, any note,
bond, mortgage, indenture, permit, license, franchise, lease, contract, agreement or other
instrument or obligation to which the Concessionaire is a party or by which the
Concessionaire or any of its properties or assets is bound or affected.

(ii) No notice, declaration, report or other filing or registration with, and no waiver, approval or
authorization of, any governmental or regulatory authority or instrumentality is required to
be submitted, made or obtained by the Concessionaire in connection with the execution,
delivery or performance of this Agreement by the Concessionaire and the consummation of
the transactions contemplated hereby, other than those which have already been obtained
and are in full force and effect.

4.2.4 Brokers and Finders

Neither the Concessionaire, nor any of its officials or employees, has incurred any liability
for any brokerage fees, commissions, finder’s fees or similar fees or expenses in connection with the
transactions referred to in this Agreement for which MWSS may be liable.

ARTICLE 5. SERVICE OBLIGATIONS OF THE CONCESSIONAIRE

5.1 General Obligations Regarding the Provision of Water Services

The Concessionaire shall have the obligations set forth in this Article 5 in respect of the provision of
water services in the Service Area. The Regulatory Office may defer the implementation of specific Service
Obligations in any situation where, in the opinion of the Regulatory Office such a deferment is warranted in
light of unforeseen circumstances (e.g., material delay in the completion of the UATP project beyond June 30,
1999 or a material delay in the completion of the LBT project, if such project is amended pursuant to Section
6.13.1 (ii)(B) hereof, beyond June 30, 1999).

5.1.1 Water Supply; New Connections

The Concessionaire shall offer water supply services to all existing Customers in the
Service Area on the Commencement Date and, in addition, the Concessionaire shall make at least
sufficient connections (net of any disconnections) to meet the coverage target percentages of the
population in the designated municipality at the time of the target (excluding users who obtain water
from a legal source other than the MWSS system) set out in Schedule 2 hereto by the dates specified
in that Schedule. Further, the Concessionaire shall provide data and supporting evidence to the
Regulatory Office that demonstrates compliance with such coverage targets, along with the method
by which such compliance was calculated, prior to each Rebasing Date in accordance with Section
9.4.1.

5.1.2 Continuity of Supply

As soon as practicable, but in any event not later than June 30, 2000, the Concessionaire
shall ensure the availability of an uninterrupted 24 hour supply of water to all connected Customers
in the Service Area, subject to interruptions resulting from the temporary failure of items of the
Facilities (where the Concessionaire acts promptly to remedy such failure) or required for the repair
or construction of the Facilities where such repairs or construction cannot be performed without
interruption to the supply of water. At all times, such water shall be supplied at a level of positive
pressure sufficient to secure the system against the ingress of untreated water or other contaminants;
provided, however, that such pressure shall be at a minimum of 11 meters (16 psi) for all areas
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connected by new primary or secondary conveyance pipelines and, from the tenth anniversary of the
Commencement Date, for all pipelines throughout the Service Area. Water pressures shall be
determined by measuring service pressure on the Customer’s side of the water meter inside of the
water meter box.

5.1.3 Obligation to Make Connections to a Water Main

Upon request from the owner or occupant of premises located in the Service Area for a
connection to a water main, the Concessionaire shall make such a connection as soon as reasonably
practicable. For such connection to a water main located less than 25 meters from the connection
point for such main, the Customer shall pay the connection fee set out in Section 9.5(i). For all other
connections, the Customer shall pay a fee determined in accordance with Section 9.5 (ii).

5.1.4 Drinking Water Quality Standards

The Concessionaire shall ensure at all times that the water supplied to Customers in the
Service Area complies with Philippine National Drinking Water Standards as published by the
Department of Health of the Republic (or successor entity responsible for such standards) and
prevailing at such time; provided, however, that the Regulatory Office, after consultation with any
appropriate governmental authorities, shall have the discretion to consent to a phase-in of compliance
with these standards over a period of not more than 12 months from the Commencement Date. The
Concessionaire shall observe any requirements regarding sampling, record keeping or reporting as
may be specified by law in the Philippines.

5.1.5 Obligation to Supply Water for Public Purposes

The Concessionaire shall make available an adequate supply of water for fire-fighting and

other public purposes as the municipalities comprising the Service Area may reasonably request. The

Concessionaire shall not assess a charge for such water used for fire-fighting purposes but may

charge for all other water used for public purposes.

5.1.6 Provision of Water Other Than Through a Water Main

The Concessionaire shall make a supply of water available to Customers other than through a water main
in circumstances where (i) supplies through a water main have been or will be interrupted for more than
24 hours, or (ii) supplies through a water main have been or will be subject to contamination. The charges
for these services shall not exceed the Standard Rates for piped water supplies. In circumstances where no
connection to a water main exists, the Concessionaire may make a supply of water available to Customers
other than through a water main at a fee equal to the costs reasonably and efficiently incurred by the
Concessionaire in supplying such water.

5.2 General Obligations Regarding the Provisions of Sewerage Services

The Concessionaire shall have the following obligations in respect of the provision of
sewerage services in the Service Area:

5.2.1 Supply of Sewerage Service; New Connections

The Concessionaire shall offer to supply sewerage services to all Customers in the Service
Area who have sewerage connections on the date hereof for domestic sewage and industrial effluents
compatible with available treatment processes and, in addition, the Concessionaire shall meet the
coverage target percentages of the total population in the designated municipality connected to the
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Concessionaire’s water system at the time of the targets set out in Schedule 3 below by the dates
specified in that Schedule.

5.2.2 Obligation to Make connections to a Public Sewer

Upon request from the owner or occupant of premises located in the Service Area for a
connection to a public sewer, the Concessionaire shall make such a connection as soon as reasonably
practicable. For such connection to a public sewer located less than 25 meters from the connection
point, the Customer shall pay the connection fee set out in Section 9.5 (i). For all other connections,
the Customer shall pay a fee determined in accordance with Section 9.5(ii).

5.2.3 Wastewater Standards

The Concessionaire shall comply with all national and local environmental laws and
standards relating to treated wastewater in the Service Area and in accordance with a schedule of
compliance provided by the Regulatory Office as the same may be modified or supplemented from
time to time in consultation with the Concessionaire, and the Concessionaire shall have the sole
liability for any changes or fines that may be assessed in connection with violations thereof.

5.2.4 Septic and Sanitation Cleaning

The Concessionaire shall offer septic and sanitation cleaning services in the Service
Area, and, in addition, the Concessionaire shall meet the coverage target percentages of the
total population in the designated municipality at the time of the target for such services set out
in Schedule 4 below by the dates specified in that Schedule; provided, however, that Customers
who requests such services of the Concessionaire shall have first priority over those who do not
request them. Septic and sanitation cleaning services are defined as the emptying of domestic
septic tanks and subsequent sludge disposal at regular intervals of five to seven years.

5.3 Exclusivity

Subject to (i) and (ii) below, the Concessionaire shall have the exclusive right to provide water and
sewerage services in the Service Area:

(i) Any license granted by the NWRB with the consent of MWSS to a third-party provider of
water and sewerage services in effect on the Commencement Date shall remain in effect in
accordance with its terms.

(ii) In the event of any application to the NWRB for which MWSS consent is sought by a third
party for a license to provide water and sewerage services to a new development after the
Commencement Date (a “New Third Party License”), MWSS shall consent to the grant by
the NWRB to the Concessionaire of the right to provide such services to such new
development if the Concessionaire agrees to provide such services on (a) substantially
similar terms as set forth in the proposed New Third Party License and (b) at the Standard
Rates then in effect for such services. If the conditions set out in the previous sentence are
not met, or if the Concessionaire voluntarily declines to provide the services to such new
development, MWSS may consent to the grant of a license to the third-party service
provider for a term not longer than 10 years, subject to revocation upon not less than 60
days’ notice to such third party provider if the Concessionaire notifies MWSS and the
NWRB in writing that the Concessionaire is in a position to provide such services in
accordance with the conditions of this clause (ii).
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To the extent feasible, MWSS shall authorize and facilitate direct communication between NWRB and the
Concessionaire with respect to the matters referred to in this Section 5.3.

5.4 Other Customer Service Standards

At all times, the Concessionaire shall provide the highest quality services to its Customers that are
practically achievable subject to guidelines issued by the Regulatory Office, including, but not limited to:

(i) giving prompt responses to Customer inquiries and complaints;

(ii) giving notices to Customers at least 48 hours in advance of any planned interruptions in
water supply;

(iii) making alternative water supplies available for planned interruptions in service of more
than 24 hours;

(iv) effecting urgent restoration of water supplies for any unplanned interruptions in service and
informing Customers on progress in making necessary repairs and treatment of potentially
contaminated supplies;

(v) taking measures to prevent sewage flooding from the sewerage network; and

(vi) providing invoices to Customers which clearly identify services, charges, period covered,
forms of payment and penalties for late or non-payment.

ARTICLE 6. OTHER OBLIGATIONS OF THE CONCESSIONAIRE

6.1 Employee Matters

The Concessionaire shall have the following obligations in respect of employee matters:
6.1.1 Hiring

(ii) Effective as the end of business hours on the day prior to the Commencement
Date, the employment of each Concessionaire Employee with MWSS shall be
terminated and each such Employee shall (upon receipt by MWSS of a release
and quitclaim from such Employee) be entitled to:

a. for Concessionaire Employees eligible for retirement, pay in accordance

with existing retirement laws (RA 660, 1146 or 1616): and

b. for Concessionaire Employees not eligible for retirement, a severance

payment equivalent to one month basic pay for every full year of service.

Such retirement and severance payments shall be the sole Responsibility of

MWSS.

(iii) One month prior to the Commencement Date, the Concessionaire Shall make an
offer to employ each Concessionaire Employee, subject to a probationary period
of six months following the Commencement Date, at a salary or pay scale and
with benefits at least equal to those enjoyed by such Employee on the date of his
or her separation from MWSS. Within a period of six months from the
Commencement Date, the Concessionaire, in consultation with the Other
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Operator, shall effect a new compensation structure comparable to those

prevailing in the utilities/infrastructure industry in the Philippines.

(iv) The Concessionaire shall pay any Concessionaire Employees who do not accept
the Concessionaire’s offer of employment the difference between the severance
pay that they previously received in accordance with clause (i)(b) above and the
severance benefits offered by MWSS pursuant to the Early Retirement Incentive
Package, without prejudice to any salary adjustment that may be granted by the
Republic.

(v) The Concessionaire shall hire, on a probationary basis, as of the Commencement

Date, all those Concessionaire Employees who accept the offer of employment.

(vi) Not later than six months after the Commencement Date, the Concessionaire will
choose which employees to retain on regular status in accordance with the
Philippine Labor Code and after due consultation with the Kapatiran ng mga
Mangagawa at Kawani sa MWSS (“KKMK”) and the MWSS Supervisors
Association (“MWSSSA”). KKMK, as the accredited and certified labor union
of the rank and file MWSS employees, and MWSSSA shall be recognized, as of
the Commencement Date, by the Concessionaire as the representative of the rank
and file and supervisory employees, respectively, until such time as an
appropriate union has been formed and certified as a bargaining agent. As such,
KKMK and MWSSSA may take up with the management of the Concessionaire
any and all issues affecting the rights and welfare of their respective members.

(vii) Those employees retained after six months from the Commencement Date shall
then begin employment with the Concessionaire as regular employees. In all
cases, the Concessionaire shall recognize and respect the rights of its employees
to self-organization and collective bargaining.

(viii) Any Retained Employee who notifies the Concessionaire and MWSS in writing
within three years following the Commencement Date of his or her desire to be
employed by the Concessionaire shall, upon the release of MWSS, promptly be
hired by the Concessionaire and entitled to the same treatment as other
Concessionaire Employees under this Section 6.1.

6.1.2 Mandatory Severance Payments

(i) Concessionaire Employees not retained by the Concessionaire after the six-month
probation period following the Commencement Date shall be paid by the
Concessionaire an amount equal to the difference between the severance pay they
previously received in accordance with Section 6.1.1 (i)(b) above and the
severance benefits offered by MWSS pursuant to the Early Retirement Incentive
Package, without prejudice to any salary adjustment that may be granted by the
Republic;

(ii) For a period of one year beginning at the end of the six month probationary
period from the Commencement Date, any Concessionaire Employee who is
affected by any reduction in personnel (e.g. redundancy, installation of labor
savings devices, closure, retrenchment or other authorized causes as provided
under the Labor Code) shall be paid separation pay equal to the greater of (a) that
prescribed by the Labor Code and (b) the difference between the severance pay
they previously received in accordance with Section 6.1.1(i)(b) above and the
severance benefits offered by MWSS pursuant to the Early Retirement Incentive
Package, without prejudice to any salary adjustment that may be granted by the
Republic, whichever is higher.
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Severance payments due to Concessionaire Employees under this section 6.1.2 shall be the
sole responsibility of the Concessionaire.

6.1.3 Non-Diminution of Benefits

The Concessionaire shall grant to all Concessionaire employees employee benefits no less
favorable than those granted to such employees by the MWSS at the time of their separation from
MWSS, particularly those set forth in Exhibit F and the following:

(i) The Concessionaire shall institute, under terms and conditions which are no less
favorable than those provided in the MWSS Employees Savings and Welfare Plan,
a welfare fund, to which it shall constitute no less than 5% of the monthly basic
salary of a member of the Fund who authorizes the Concessionaire to deduct from
his or her monthly basic salary 5% thereof as a contribution to the Fund.

(ii) The Concessionaire shall permit deductions from the salaries of those employees
who are members of ESLA/Health Cooperative and Consumers
Cooperative/KKMK and MWSSSA of their contributions for capital subscriptions
and loan repayments or membership dues in favor of those institutions. The
Concessionaire shall likewise, to the extent feasible, provide to those institutions
office facilities free of charge.

6.1.4 Employee Stock Option Plan

The Concessionaire shall, within a period of no more than six months from the
Commencement Date, adopt an Employee Stock Option Plan (“ESOP”) that overtime shall ensure the
ownership by its regular employees equal to six percent of the total outstanding capital stock of the
Concessionaire. The Concessionaire shall decide whether these shares will be sourced from original
Filipino shareholders, an issue of previously authorized but unissued shares or through a capital
increase. The ESOP shall have the following features:

(i) Coverage and Allocation. All regular employees of the Concessionaire and its
affiliates shall be entitled to participate in the ESOP. Employees may only
subscribe shares under the ESOP (the “ESOP Shares”) pursuant to the Annual
Stock Purchase Bonus referred to in clause (iii) below. The ESOP shares shall
comprise a portion of the Filipino equity ownership of the Concessionaire.

(ii) Subscription Price. During the first year of the ESOP, the subscription price of
each ESOP Share shall be the issued price of the Concessionaire’s common shares
at the time of incorporation of the Concessionaire. Thereafter, and until an initial
public offering (an “IPO”) of the Concessionaire’s shares is conducted, the ESOP
Share subscription price shall be adjusted at the end of each fiscal year by the
Concessionaire’s external auditors according to established and generally accepted
accounting principles applicable to comparable ESOPs in the Philippines.

(iii) Manner of Payment. The Concessionaire shall grant to every regular employee
who has rendered continuous satisfactory service during the full prior year an
Annual Stock Purchase Bonus equal to not less than the last basic monthly salary
of the employee during that year. This Bonus shall automatically be applied to the
purchase of ESOP Shares for the account of that employee. This Bonus shall be
paid until all ESOP Shares available for subscription under the ESOP have been
prescribed.

(iv) Vesting. The ESOP Shares shall be issued in the name of the purchasing
employees upon full payment for such ESOP Shares.
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(v) Holding Period. For a period of five years from the date of issuance of each ESOP
Share, employees may not sell or transfer that ESOP Share. Thereafter, an
employee may only sell that ESOP Share to the Concessionaire at a price equal to
that determined in the same manner as in Section 6.1.4(ii). Should the
Concessionaire conduct an IPO within or after this five-year period, all
outstanding ESOP Shares shall be included in the relevant registration statement
and each employee holding ESOP Shares may then freely sell or transfer the
ESOP Shares held by that employee. In the event of the death of an employee, the
balance of the foregoing holding period shall likewise apply to the employee’s
successors-in-interest.

(vi) Separation from the Concessionaire. In the event that an employee resigns, retires
or is otherwise separated for any reason (other than death) from the
Concessionaire or its affiliates prior to the expiration of the five-year holding
period or, if earlier, the implementation of an IPO, the ESOP Shares then held by
the resigned, retired or separated employee shall be purchased by the
Concessionaire at the then-applicable subscription price under the ESOP.

(vii) Voting Rights. The ESOP shall comprise a class of shares which, during the first
five years after commencement of the ESOP, shall have no voting rights except
for the matters provided for under Section 6 of the Corporate Code; provided,
however, that if the ESOP Shares are included in an IPO during this five-year
period, this restriction on voting rights shall automatically terminate.

(viii) New Employees. Regular Employees who join the Concessionaire after the
institution of the ESOP are eligible to participate on a first-come, first-served basis
if there are still ESOP Shares available for subscription. Subject to rules to be
issued by the Concessionaire, available ESOP Shares may be allocated on a pro-
rata basis if it is not possible in Section 6.1.4(i) hereof.

6.2 Taxes

Subject to the Undertaking Letter, the Concessionaire shall be responsible for all income and
withholding taxes and other forms of taxes arising from payments by Customers for services rendered on and
after the Commencement Date and from any other income associated with the Concession arising on or after the
Commencement Date. The Concessionaire shall be responsible for the payment of all documentary stamp taxes
payable in connection with the execution of this Agreement and any related agreements or instruments; all
customs, import duties and other taxes or assessments relating to the importation into the Philippines of plant
and equipment to be used in connection with the Concession; and all local transfer taxes on property acquired
through the exercise of rights pursuant to Section 7.2. In addition, the Concessionaire shall pay, for and on
behalf of MWSS, or shall reimburse MWSS within 10 days of demand therefor, any real property taxes and
other taxes or assessments payable by MWSS on MWSS property or assets in the Service Area used for the
supply of water and sewerage services.

6.3 Interconnection

Within thirty days following the date hereof, the Concessionaire shall enter into an interconnection
agreement with the Other Operator, in form and substance satisfactory to MWSS (the “Interconnection
Agreement”). The Interconnection Agreement shall address the matters summarized in Schedule 10 in a manner
consistent with that Schedule.
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6.4 Concession Fee

By January 15 of each calendar year, MWSS shall provide the Concessionaire with a schedule of all
anticipated amounts due in connection with the Concession Fee payable during that year, as described in (a) and
(b) below:

(a) Not later than 14 days prior to the date on which any scheduled payment of principal,
interest, fees or other amount is due under an MWSS Loan, MWSS shall notify the
Concessionaire in writing of the total amount due on that payment date and of the Peso
equivalent thereof (the “Peso Equivalent”) calculated at the then prevailing exchange rate.
Not later than one business day prior to each such payment date, the Concessionaire shall
remit to such account as MWSS shall instruct an amount, in Pesos, exclusive of any
penalties or default interest charges not attributable to a late payment of the Concession Fee
by the Concessionaire (each such payment being referred to herein as a “Concession Fee”),
equal to the sum of:

(vi) 10% of the aggregate Peso Equivalent due under any MWSS Loan which has been
disbursed prior to the Commencement Date (including MWSS Loans for Existing
Projects and the UATP project) on the relevant payment date set forth on Schedule
8; plus

(vii) 10% of the aggregate Peso Equivalent due under any MWSS Loan designated for
the UATP project which has not been disbursed prior to the Commencement Date
on the relevant payment date set forth on Schedule 8; plus

(viii) 10% of the Local Component costs and Cost Overruns related to the UATP project
in accordance with Schedule 9; plus

(ix) 100% of the aggregate Peso Equivalent due under any MWSS Loan designated for
Existing Projects, which have not been disbursed prior to the Commencement
Date and have been either awarded to third party bidders in accordance with
Section 6.13.1(i) or been elected by the Concessionaire for continuation in
accordance with Section 6.13.1(ii); plus

(x) 100% of the Local Component costs and Cost Overruns related to Existing
Projects in accordance with Schedule 9.

(b) Not later than five days after the Commencement Date, the Concessionaire shall pay to
MWSS the amount of 50 million Pesos, which MWSS shall use and allocate in accordance
with Section 11.2 for the establishment and budget of the Regulatory Office during 1997. In
addition, the Concessionaire shall pay to MWSS on the first business day of January of each
year thereafter an amount equal to one-half of the annual budget for MWSS for that year,
provided that such annual budget shall not for any year exceed million Pesos, subject to
annual CPI adjustments. MWSS may request adjustments to the level of the annual
contribution of the Concessionaire provided in this Section 6.4(b). If the Concessionaire
objects to any such requested revision, it may refer the matter to the Appeals Panel.

Each Concession Fee shall be treated as an Expenditure of the Concession and the
Concessionaire’s payment obligation in respect thereof shall rank at least pari passu with its unsecured
payment obligations under all other debt instruments that may be executed by the Concessionaire. In
the event the Concessionaire does not make a timely payment of a Concession Fee, the U.S. dollar
equivalent of such unpaid amount may be drawable under the Performance Bond in accordance with
Section 6.9 below.

6.5 Asset Management Obligations

The Concessionaire shall have the following obligations concerning the management of the Facilities:
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6.5.1 General

During the term of the Concession, the Concessionaire shall:

(iv) operate, maintain, renew and, as appropriate, decommission Facilities in a manner

consistent with the National Building Standards and best industrial practices so
that, at all times, the water and sewerage system in the Service Area is capable of
meting the Service Obligations (as such obligations may be revised from time to
time by the Regulatory Office following consultation with the Concessionaire);

(v) repair and correct, on a priority basis, any defect in the Facilities that could
adversely affect public health or welfare, or cause damage to persons or third-
party property; and

(vi) ensure that at all times the Concessionaire has sufficient financial, material and
personnel resources available to it to meet its obligations under this Agreement.

6.5.2 Asset Condition Disclosure

Not later than the second anniversary of this Agreement, the Concessionaire shall provide a
report (the “Asset Condition Report”) to the Regulatory Office, in form and substance satisfactory to
the Regulatory Office, classifying (on a graded scale) the condition of infrastructure Facilities in the
Service Area. This Report shall cover:

(i) Facilities related to the provision of water supply services, distinguishing among
dams, Bulk Water transfer, water treatment plants, pumping stations, trunk potable
water systems, service reservoirs and distribution mains; and

(ii) Facilities related to the provision of sewerage services, distinguishing among

interceptor sewers, other sewers, rising mains, pumping stations, sewage treatment
and disposal assets.

6.5.3 Audit

The Regulatory Office shall have the right at any time to commission an independent
technical audit of the accuracy and completeness of any Asset Condition Report and/or the
Concessionaire’s compliance with its obligations under Section 6.5.1 above. The Concessionaire shall
cooperate fully with any such audit. The cost of any such audit shall be borne by the Concessionaire
and treated as an Expenditure.

6.5.4 Remedial Works

Commencing five years subsequent to the Commencement Date, if, based on an audit report
commissioned pursuant to Section 6.5.3 above and any other information coming to the attention of
the Regulatory Office, the Regulatory Office reasonably concludes that the Concessionaire is not
meeting its obligations under Section 6.5.1 above, then the Regulatory Office shall give the
Concessionaire written notice of this conclusion and the Concessionaire shall have 60 days (or such
longer period as the Regulatory Office may provide) thereafter to commence appropriate action to
correct the problem to the satisfaction of the Regulatory Office. Failing such correction, the
Regulatory Office shall have the authority to commission appropriate remedial works by third parties.
The costs of such remedial works shall be borne by the Concessionaire but shall not constitute an
Expenditure or qualify as a Ground for an Extraordinary Price Adjustment. In the event the
Concessionaire does not make a payment within 30 days of written notice pursuant to this Section
6.5.4 of the cost of such remedial works, the U.S. dollar equivalent of such unpaid amount shall be
drawable under the Performance Bond in accordance with Section 6.9 below.
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6.6 Disconnections

The Concessionaire may disconnect any Connection for the supply of water services or sewerage
services in the Service Area if charges billed to the Customer therefor remain unpaid for a period of 60 days
after their due date. The Concessionaire shall provide the Customer with not less than seven days’ prior written
notice of any such disconnection. Upon the payment in full of all outstanding charges (including late payment
penalties and reconnection charges), the Concessionaire shall reconnect any Customer whose services have
previously been disconnected within five days following receipt of a request for reconnection.

6.7 Insurance

The Concessionaire shall at its own expense effect and maintain, or require to be effected and
maintained throughout the term of the Concession insurance coverage in such amounts as are reasonable and
customary throughout the industry internationally; provided however, that the Concessionaire shall at all times
comply with Administrative Order #141 regarding insurance of Government properties by the General Insurance
Funds of the Government Service Insurance System.

6.8 Compliance with Laws

The Concessionaire shall comply with all Philippine laws, statutes, rules regulations, orders and
directives of any governmental authority that may affect the Concession from time to time.

6.9 Performance Bond

On the Commencement Date, and on each Rate Rebasing Date, the Concessionaire shall post a bond,
bank guarantee or other security acceptable to MWSS (a “Performance Bond”)in favor of MWSS to secure the
Concessionaire’s performance of its obligations under Section 3.8 (Joint Venture), Section 6.4 (Concession Fee),
Section 6.5.4 (Remedial Works), Section 10.3.2 (Early Termination), Section 10.4 (Penalties for Failure to Meet
Service Obligations) Section 11.2.2 (Annual Contribution), Section 12.6 (Costs of the Appeals Panel) during the
Rate Rebasing Period commencing on that date. The aggregate amount drawable in one or more installments
under each such Performance Bond during the Rate Rebasing Period to which it relates is set out below:

Aggregate Amount Drawable

Rate Rebasing Period Under Performance Bond

(in U.S. $ millions)
East
First 70

Second 70

Third 60

Fourth 60

Fifth 50

Within 30 days of the Commencement of each calendar year, the Concessionaire shall cause the
Performance Bond to be reinstated in full amount set forth above applicable for that year.
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Upon not less than 10 days’ written notice to the Concessionaire, MWSS may take one or more
drawings under the Performance Bond relating to a Rate Rebasing Period to cover amounts due to MWSS
during that period; provided, however, that no such drawing shall be made in respect of any claim that has been
submitted to the Appeals Panel for adjudication until the Appeals Panel has handed its decision in the matter.

In the event that any amount payable to MWSS or the Regulatory Office by the Concessionaire
hereunder is not paid when due, such amount shall accrue interest at a rate equal to that of a364 days Treasury
Bill for each day it remains unpaid from and including the due date thereof to but excluding the date on which
such amount shall be paid (including payment through a drawing under the Performance Bond) in full.

6.10 Procurement

During the course of the Concession, other than with respect to existing Projects, the Concessionaire
shall make available for public tender any contract involving the procurement of goods or services, in one or
more installments, having a value in excess of P 250,000,000, which amount shall be adjusted on January 1st of
each year by the percentage change in the Consumer Price Index for the preceding year. The Concessionaire, at
its sole discretion, shall determine the specifications upon which contractors will bid and the criteria, including
price and quality, by which the winning bid is selected.

6.11 Equity Capital

Unless waived in writing by the Regulatory Office:

(iv) until December 31,2002 (the first Rate Rebasing Date), the International Water Operator
and the Sponsor shall each (directly or through a subsidiary that is at least 51% owned, and
controlled, by the International Water Operator or the Sponsor, respectively) at least 20% of
the outstanding capital stock of the Concessionaire. After the first Rate Rebasing Date and
throughout the Concession, the International Water Operator and the Sponsor shall each own
(directly or through a subsidiary that is at least 51% owned, and controlled, by the
International Water Operator or the Sponsor, respectively) at least 10% of the outstanding
capital stock of the Concessionaire;

(v) the Concessionaire shall have an equity paid-in cash capital of not less than P 1 billion at the
Commencement Date and by the first anniversary of the Commencement Date shall have an
equity paid-in cash capital of not less than P 2 billion; and

(vi) the Concessionaire shall consider the feasibility of making a public offering of a portion of
its equity in the Philippines with a view toward broadening the ownership base of the
Concessionaire.

6.12 Concessionaire Debt

The Concessionaire shall not, without the prior approval of MWSS, incur any debt or liability that
would mature after the Expiration Date.

6.13 Existing Projects/UATP

The Concessionaire shall have the following responsibilities with respect to Existing Projects of
UATP.

6.13.1 Existing Projects

(i) For the Existing Projects set forth on Schedule 9 which MWSS has awarded a
contract to a third party through a public tender prior to the Commencement Date:
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(A) the Concessionaire shall assume supervisory responsibility for such

Existing Projects (subject to the provisions of the relevant MWSS Loan
documentation); and

(B) the interest, principal and fee obligations related to the disbursed
amounts of MWSS Loans designated for such Existing Projects,
together with the Local Component costs identified in Schedule 9 and
Cost Overruns, shall be covered by the Concession Fee.

(iii) For Existing Projects set forth on Schedule 9 which MWSS has not awarded a
contract to a third party through a public tender prior to the Commencement Date
the Concessionaire shall have the option within 30 days following the
Commencement Date to:

(A) continue with the project design and funding in the same manner as
initially contemplated by MWSS and the lender to such Project;

(B) amend the project design and funding in collaboration with MWSS and
the respective lender to such Project; or

(C) notify MWSS and the lender to such Project of the Concessionaire’s
intent to cancel such Project and its related financing.

In the event the Concessionaire does not cancel such Project pursuant to sub-
clause (C) above;

(1) the Concessionaire shall assume supervisory responsibility for such

Existing Projects (subject to the provisions of the relevant MWSS Loan
documentation);

(2) the interest, principal and fee obligations related to the disbursed
amounts of MWSS Loans designated for such Existing Projects together
with the Local Component costs identified in Schedule 9 and Cost
Overruns, shall be covered by the Concession Fee; and

(3) MWSS and the Concessionaire shall, with the consent of the respective
order, set out in writing the details relating to the exercise of the
Concessionaire’s supervisory responsibility for such Existing Project.

6.13.2 UATP

(i) MWSS shall retain supervisory responsibility for the UATP project and the Other
Operator shall assist and support, to the best of its ability, MWSS to exercise the
completion of the UATP project at or under budget.

(ii) The interest, price and fee obligations related to the disbursed Amounts of the
MWSS Loans designated for the UATP project, together with related Cost
Overruns and the Local Component costs identified on Schedule 9, shall be
covered by the Concession Fee.

(iii) Cost Overruns or any material delay after June 30, 1999 in the completion of the
UATP project and the supply of the related incremental Raw Water shall be
considered, upon completion of the UATP project, grounds for a deferment of
Service Obligations Adjustment in accordance with Section 9.3.1.
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(iv) The Joint Venture shall be responsible for the operation, maintenance and renewal
of all related facilities upon completion of UATP.

6.13.3 Performance Penalties

Any liquidated damages or other performance penalties paid to MWSS under any Existing
Project or UATP shall promptly be paid over the Concessionaire and treated as a Receipt under the
Concession.

6.14 Technical Submission/Financial Model

The Concessionaire shall provide to the Regulatory Office, not later than 30 days after the
Commencement Date, a copy of its Technical Submission. In addition, the financial model supporting the
Concessionaire’s Rate Bid and Technical Submission (including discount rates, return on equity, projected
income statements, balance sheets, sources and uses of funds and relevant ratios) which accompanied the
Concessionaire’s bid shall kept in a sealed envelope which may not be opened by the Regulatory Office prior to
30 days after the Commencement Date. The Regulatory Office may treat this information as relevant in
carrying out its responsibilities under Article 9 hereof.

6.15 New Assets

Legal title to all fixed assets contributed to the MWSS system in the Service Area by the
Concessionaire during the term of the Concession shall remain with the Concessionaire until the Expiration Date
(or the Early Termination Date) at which time all right, title and interest in such assets shall automatically vest in
MWSS. The Concessionaire may mortgage or create security interest over such assets solely for the
purpose of financing (or refinancing) the acquisition or construction thereof; provided, however, that no such
mortgage or security interest shall extend beyond the Expiration Date and, provided further, however, that no
such mortgage or security interest shall be subject to foreclosure except following an Event of Termination. The
Concessionaire shall not, without the prior approval of MWSS, create a security interest of any kind over all or
any part of the Facilities to which MWSS has legal title. Legal title to all facilities (including any fixed assets
resulting from the exercise of rights and powers referred to in Section 7.2 below) other than new assets
contributed by the Concessionaire shall remain with MWSS.

ARTICLE 7. OBLIGATIONS OF MWSS

7.1 Cooperation with Concessionaire

Subject to the requirements of the Charter, MWSS shall, upon request of the Concessionaire,
cooperate in all reasonable ways to facilitate the Concessionaire’s carrying out of its responsibilities under the
Concession. Pursuant to the authority given to MWSS by Section 3(h) of the Charter, and subject to the
restrictions contained in Section 12 of the Charter, this cooperation shall include, but not be limited to,
cooperation with actions undertaken by the Concessionaire to implement changes to the Standard Rates for
water and sewerage services as instructed by the Regulatory Office or, as appropriate, by the Appeals Panel.

The cooperation to be rendered by MWSS to the Concessionaire shall not require MWSS or any of its
affiliates to finance (or guarantee the financing of) any expenditure required in connection with the Concession,
or to undertake any liability in favor of a third party other than those expressly provided for in this Agreement.

7.2 Easements, Eminent Domain, Right of Way and Similar Powers

MWSS hereby appoints the Concessionaire as its agent and representative, for purposes of, among
others, Section 3 (K) of the Charter in its name, place and stead, to apply for and exercise its easement, eminent
domain, right of way and similar rights and powers given to MWSS under its Charter in connection with
infrastructure projects and works undertaken relating to the Concession by the Concessionaire in the Service
Area pursuant to this Agreement. The Concessionaire shall be solely responsible for the payment of any
compensation to third parties occasioned by the exercise of such rights and powers.
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ARTICLE 8. RETAINED FUNCTIONS OF MWSS

8.1 Retained Functions

MWSS shall retain, among others, the following operational responsibilities during the period of the
Concession (other than the responsibilities assigned to the Regulatory Office):

(i) facilitating the exercise by the Concessionaire of its agency powers, upon appropriate
notification to MWSS by the Concessionaire as provided in Sections 7.1 and 7.2 above;

(ii) carrying out accounting and notification functions;

(iii) monitoring, reporting and administering the MWSS Loans, and performing related functions
in connection with the Existing Projects;

(iv) providing such other services or functions as are assigned by this Agreement, or by the
Regulatory Office following the Commencement Date, to MWSS;

(v) managing and/or disposing of the Retained Assets; and

(vi) managing and operating UATP.

ARTICLE 9. RATES AND CONNECTION CHARGES

9.1 Standard Rates/CERA Fee

Subject to the limitation of Section 12 of the Charter, Standard Rates may be adjusted from time to
time in accordance with the rate adjustment provisions set forth in Sections 9.2, 9.3 and 9.4 below. In the event
that the Standard Rates chargeable under this Agreement during any period would exceed the limitation of
Section 12 of the Charter applicable to that period, the Charter limitation shall be observed but the Regulatory
Office shall treat the excess amount (and interest accrued thereon at the Appropriate Discount Rate) as an
Expiration Payment; provided, however, that the Concessionaire may agree to forgo such Expiration Payment in
exchange for some other benefit, such as an adjustment to one or more of the coverage targets, that the
Regulatory Office may at the time offer to the Concessionaire. Without prejudice to the obligation of MWSS to
pay any such Expiration Payment on the Expiration Date, it is the intention of MWSS, should it choose to solicit
bids from private parties for the right to operate the system following the Expiration Date, to obtain a lump-sum
cash payment from such parties as part of the consideration for the awarding of such rights and to fund any
Expiration Payment required by this Section from the proceeds of such cash payment.

The Concessionaire may charge Customers a CERA payment of one Peso per cubic meter of water
consumed above the Standard Rates. Although CERA has historically been used by MWSS to adjust for
exchange rate movements, that function will be performed through the operation of Section 9.3.1 (vi) of this
Agreement.

9.2 Rate Adjustments

The Standard Rates for water and sewerage services shall be adjusted each year effective January 1 of
each Charging Year, in accordance with (i) the Rates adjustment Limit forth in Section 9.2.2, (ii) the adjustment
principles set forth in Section 9.2.2 and (iii) the procedures set forth in Section 9.2.3.

9.2.1 Rate Adjustment Limit

The Weighted Average Rates Increase implied by the Standard Rates proposed by the
Concessionaire in respect of any Charging Year may not exceed the Rates Adjustment Limit.
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If an any Charging Year the Weighted Average Rates Increase is less than the Rates
Adjustment Limit, that shortfall shall not be recoverable in any way by the Concessionaire in a future
Charging Year.

For purposes of calculating Weighting Year revenue, where the Weighting Year is 1996 or
1997, MWSS shall provide to the Concessionaire all information necessary to make the calculation in
respect of periods occurring prior to the Commencement Date.

9.2.2 Rate Structure Adjustments

Other than adjustments pursuant to Section 9.2.3 below, all Standard Rates will be revised
annually by the same percentage adjustment; provided, however, that the Concessionaire may, subject
to the overall Rates Adjustment Limit, propose to the Regulatory Office that certain Standard Rates be
revised by different percentage adjustments. In proposing different percentage adjustments, the
Concessionaire shall have regard to the following:

(i) the impact of the proposed adjustment upon the ability of low income domestic households
to afford such charges;

(ii) the desirability of sending economically efficient price signals to Customers;

(iii) the desirability of reducing cross-subsidies between different Customers or groups of

Customers (including cross-subsidies between water and sewerage Customers);and

(iv) the desirability of removing any cross-subsidy between domestic Customers, as a group, and
non-domestic Customers, as a group, as soon as practicable.

9.2.3 Rate Adjustment Procedure

Prior to October 31 of each Prior Year, the Concessionaire shall submit to the Regulatory
Office its proposed Standard Rates for the following Charging Year along with sufficient supporting
information to enable the Regulatory Office to verify that the proposed Standard Rates is consistent
with the Rates Adjustment Limit.

In the event that the annual rate of inflation for any year, as measured by the CPI, shall
exceed 12%, the Regulatory Office shall propose amended rules and procedures for the calculation
and application of the Rates Adjustment Limit so as to provide for quarterly rate adjustments; such
procedures to remain in place until January 1st next following a calendar year in which the annual CPI
is 12% or less; provided, however, that no such quarterly rate adjustment shall be made during the first
12 months after the Commencement Date.

9.2.3.1 Equal Rate Adjustment

Following the submission of proposed Standard rates in accordance with Section

9.2.3 above, and providing the Concessionaire is proposing that all Standard Rates be
revised by the same percentage adjustment, the Regulatory Office shall verify that the
proposal complies with the Rates Adjustment Limit and shall notify the concessionaire
accordingly within 15 days. In the event that notification has not been given within 15 days,
verification shall be deemed to have taken place.

9.2.3.2 Different Rate Adjustments

Following the submission of proposed Standard Rates in accordance with Section

9.2.3 and if the Concessionaire is proposing that Standard Rates be revised by different
percentage adjustments, the Regulatory Office shall notify the Concessionaire of its
acceptance or rejection of the proposed Standard Rates, including verification that the
proposal complies with the Rates Adjustment Limit, within 30 days. In the event that
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notification has not been given within 30 days, the Regulatory Office shall be deemed to
have accepted the proposed rates and to have verified that they comply with the Rates
Adjustment Limit.

In either accepting or rejecting the proposed Standard Rates, the Regulatory Office
shall have regard to the principles described in Section 9.2.2 above, and in any case may not
withhold approval if the proposed adjustments entail a reduction in cross-subsidies between
Customers or groups of Customers and are likely to have no detrimental impact on
affordability efficiency.

In the event that the Concessionaire’s Standard Rate proposals are rejected by the
Regulatory Office, the Concessionaire may submit revised proposals based on uniform
percentage adjustments within seven days of notification of the rejection. The Regulatory
Office shall verify the revised proposal complies with the Rates Adjustment Limit and notify
the Concessionaire accordingly within 7 days.

9.2.4 Changes to Basis of Rates

In the event the Concessionaire proposes to make a change (other than one which relates
solely to the level of Standard Rates in Section 9.2.3 above) to the basis on which the Concessionaire
makes or calculates any Standard Rate (including a change in the application of discounts and
surcharges to Standard Rates), the Concessionaire shall notify the Regulatory Office and submit
sufficient supporting information to enable the Regulatory Office to verify that the proposal is
consistent with the Rates Adjustment Limit for that Charging Year.

Upon receipt of such a proposal, the Regulatory Office shall determine within 60 days
whether or not to accept the proposal. In the event the Regulatory Office cannot verify whether the
proposal is consistent with the Rates adjustment Limit for that Charging year, the Concessionaire may
either submit an interim Standard Rates adjustment proposal for the following Charging Year, in
accordance with Section 9.2.5 below, or defer its proposed change for consideration under the rate
adjustment provisions set forth in Section 9.2.

9.2.5 Interim Standard Rate Adjustments

Without prejudice to Section 9.2.3 above, the Concessionaire may at any time make an
interim Standard Rates adjustment proposal to the Regulatory Office, for Implementation during the
Charging Year, but not before the first day of the calendar month following 90 days from submission
of such proposal. The Concessionaire shall submit sufficient supporting information to enable the
Regulatory Office to verify that the Standard Rates proposal is consistent with the Rates Adjustment
Limit.

In verifying that the interim Standard Rates proposal is consistent with the Rates Adjustment
Limit, the Regulatory Office shall recalculate the Weighted Average Rates Increase for the Charging
Year in which the interim Standard Rates proposal, including verification that such proposal complies
with the Rates Adjustment Limit, within 30 days.

In either accepting or rejecting the interim Standard Rates proposal, the Regulatory Office
shall have regard to the principles described in Section 9.2.2 above, and in any case may not withhold
approval if the proposed adjustments entail a reduction in cross-subsidiaries between Customers or
Groups of Customers and are likely to have no detrimental impact on affordability and economic
efficiency.

In the event that the Concessionaire’s interim Standard Rates proposal is rejected by the
Regulatory Office, the Standard Rates already agreed for that Charging Year shall continue to apply.
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9.3 Extraordinary Price Adjustments

It is the intention of the parties that should certain unforeseen events occur during the term of the
Concession, rates may be adjusted (up or down) to account for the financial consequences of such events. Such
adjustments may occur from time to time as described in this Section 9.3.

In the event that one or more Grounds for Extraordinary Price Adjustment (“GEA”), as defined in
Section 9.3.1 below, has occurred or is expected to occur, the Regulatory Office shall either (i) determine, in
accordance with Section 9.3.2 below, an extraordinary price adjustments (an “Extraordinary Price Adjustment”
or an “E”) for the purposes of calculating the Rates Adjustment Limit to be applied to the Standard Rates
appropriate adjustment to the Service Obligations.

The Concessionaire may at any time require the Regulatory Office to consider circumstances that the
Concessionaire believes constitute Grounds for Extraordinary Price Adjustment. The Regulatory Office may
also at any time notify the Concessionaire of circumstances that the Regulatory Office believes constitute
Grounds for Extraordinary Price Adjustment, as set forth in Section 9.3.1 below.

9.3.1 Grounds for Extraordinary Price Adjustment

A Ground for Extraordinary Price Adjustment (“GEA”) means any of the following
circumstances(whether or not treated as an Expenditure or Receipt under this Agreement):

(xii) the Regulatory Office, following consultation with the Concessionaire, determines
that amendments should be made to the Service Obligations;

(xiii) there is any change in law, government regulation, rule or order, or interpretation
thereof, that affects or is likely to affect the Cash Flow of the Concessionaire;

(xiv) the Regulatory Office determines that a breach of this Concession Agreement has
occurred and an appropriate remedy has not been made and will not be made;

(xv) the Concessionaire has been or will be in receipt of a grant or below-market

financing from any multilateral or bilateral source that may be used to finance or
offset any Expenditures, where such grant or below-market financing was not
known or anticipated at the Commencement Date, or at the last Rate Rebasing
Date, whichever is the most recent;

(xvi) in the reasonable opinion of the Regulatory Office, a material change has been
made to the basis of calculation or definition of the Consumer Price Index or
replacement index agreed to pursuant to Section 2.4 above, which would render
that index inappropriate for the purposes contemplated by Section 9.2.1 above;

(xvii) without regard to the CERA adjustment referred to in Section 9.1, (a) in respect of
any MWSS Loan, a change of more than 2% has occurred after December 6, 1996
(the date of the distribution to the Concessionaire of the technical and business
assumptions set forth in Exhibit E) in the rate of exchange between the Philippine
peso and the currency in which such Concessionaire Loan is denominated, and, in
either case, such change in exchange rates has not previously been the subject of
an Extraordinary Price Adjustment;

(xviii) there exists an unpaid penalty amount owed by the Concessionaire to the
Regulatory Office pursuant to Section 10.4;

(xix) in the reasonable opinion of the Regulatory Office, the bidding assumptions
distributed to the Concessionaire prior to the bid (and attached hereto as Exhibit E)
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have proven to be incorrect in a material way during any period prior to the first
general rate rebasing pursuant to Section 9.4.2;

(xx) an increase has occurred in the Concession Fee as a result of Cost Overruns for the
UATP project;

(xxi) the financial performance of the Concessionaire has been materially affected as a
result of a delay in the completion of the UATP project beyond June 30, 1999; or

(xxii) the Concessionaire has incurred significant additional costs as a result of an Event
of Force Majeure which are not covered by nsurance.

In order to qualify for an Extraordinary Price Adjustment to be incorporated into the Rates
Adjustment Limit for any Charging Year, notification by the Regulatory Office and/or, as the case
may be, the Concessionaire, that one or more GEAs have occurred or are expected to occur shall be
made by March 31 of the previous Charging Year.

9.3.2 Determination of Extraordinary Price Adjustment

Upon determination by the Regulatory Office that one or more GEAs have occurred, the
Regulatory Office shall, by taking into account all information available at the time, and by making
reasonable projections of all factors relevant to the future Cash Flows of the Concessionaire, calculate:

(iv) the Cash Flows which would be caused by the GEA or GEAs (and, for this
purpose, the circumstances referred to in Section 9.3.1 (iv) any exchange rate
movement of the kind referred to in Section 9.3.1 (vi) shall be deemed to affect
Cash Flows);

(v) the Net Present Value of those Cash Flows as at June 30 of the following
Charging Year; and

(vi) what Extraordinary Price Adjustment, positive or negative, made to the Rates
Adjustment Limit for the following Charging Year would cause the Net Present
Value as at June 30 of the Charging Year of the expected Receipts of the
concessionaire for the period beginning January 1 of that Charging Year until the
Expiration Date to change by an amount equal but opposite in sign to the Net
Present Value of Cash Flows referred to in (ii) above.

In the event that such calculation indicates that the appropriate Extraordinary Price
Adjustment is between zero and plus 1% then the Regulatory Office shall determine that the
Extraordinary Price Adjustment is zero.

The Regulatory Office shall determine what Extraordinary Price Adjustment should be made
for any Charging Year by May 31 prior to the beginning of that Charging Year and shall notify the
Concessionaire in writing setting out the basis for such determination.

9.3.3 Concessionaire’s Right of Appeal

In the event that the Concessionaire:

(i) has notified the Regulatory Office that, in the opinion of the Concessionaire, one
or more GEAs have occurred or are expected to occur but the Regulatory Office
has not concurred with that opinion; or

(ii) objects to the Regulatory Office’s determination of an Extraordinary Price

Adjustment or adjustment to the Service Obligations, then
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the Concessionaire may, not later than June 30 of that year, refer the matter to the Appeals
Panel. Within 30 days after any such referral, the Concessionaire and the Regulatory Office
shall each file its submission with the Appeals Panel and the Appeals Panel shall thereafter
conduct an investigation into the matter in accordance with Article 12. Consequently, the
Appeals Panel shall render a decision as to whether one or more GEAs have occurred and, if
so, the appropriate level of Extraordinary Price Adjustment or adjustment to the Service
Obligations, by September 30 of the year in which the referralsis made.

9.3.4 General Rates Setting Policy/Rate Rebasing Determination

The maximum rates chargeable by the Concessionaire for water and sewage services
hereunder applicable to the period through the Second Rate Rebasing Date (subject to interim
adjustment’s as described in this Article 9) are set out in Schedule 5 to this Agreement. It is the
intention of the parties that, from and after the Second Rate Rebasing Date, the rates for water and
sewerage services provided by the Concessionaire shall be set at level that will permit the
Concessionaire to recover over the 25-year term of the Concession (net of any grants from third
parties and any possible Expiration Payment) operating, capital maintenance and investment
expenditures efficiently and prudently incurred, Philippine business taxes and payments corresponding
to debt service on the MWSS Loans and Concessionaire Loans incurred to finance such expenditures,
and to earn a rate of return (referred to herein as the “Appropriate Discount Rate”) on these
expenditures for the remaining term of the Concession in line with the rates of return being allowed
from time to time to operators of long-term infrastructure concession arrangements in other countries
having a credit standing similar to that of the Philippines. The parties further agree that the maximum
rates chargeable for such water and sewerage services shall be subject to general adjustment at five-
year intervals commencing on the second Rate Rebasing Date; provided that the Regulatory Office
may exercise its discretion to make a general adjustment of such rates on the First Rate Rebasing Date,
but, if it does not do so, the Regulatory Office shall implement the assumptions set out in paragraph 2
of Exhibit E on the fifth anniversary of the Commencement Date. It is understood that the
determination of the appropriate rate of return will be made separately at the time of each generalized
rate rebasing.

It is also the intention of the parties that rates be set in such a way as to provide appropriate
efficiency incentives to the Concessionaire, with a view toward benefiting both the Customers and the
Concessionaire.

The Regulatory Office shall determine the Rebasing Adjustment to be used for the purposes
of calculating the Rates Limit for each of the five Charging Years of each Rebasing Period, in
accordance with the provisions set forth below.

9.4.1 Concessionaire’s Information

Not later than March 31 preceding each Rate Rebasing Date, the Concessionaire shall
supply the Regulatory Office with information on its Expenditures, Receipts, Cash Flows, Opening
Cash Position and Future Cash Flows in a form and manner, and covering such time periods, as the
Regulatory Office may determine.

The Concessionaire shall also provide such other information as the Regulatory Office may
reasonable request or as the Concessionaire may wish to provide.

9.4.2 Rebasing Adjustment

For the purpose of determining the Rates Adjustment Limit to apply to Standard Rates to
come into effect on a Rate Rebasing Date commencing with the second Rate Rebasing Date, and the
Rates Adjustment Limits for the following four Charging Years, the Regulatory Office shall, by taking
into account all information available at the time, and by making reasonable projections of all factors
relevant to the future Cash Flows of the Concessionaire, determine:
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(i) the Net Present Value, which may be either positive or negative, of the Opening
Cash Position, as at June 30 following that Rate Rebasing Date;

(ii) the amount, either positive or negative, which if made to the Rates Adjustment
Limit for the following Charging Year would cause the Net Present Value of the
Future Cash Flows, as at June 30 following that Rate Rebasing Date, to be equal
but opposite in sign to the Net Present Value of the Opening Cash Position as
determined in (i) above (the “Rebasing Adjustment”)

Notwithstanding the foregoing, the regulatory Office may, in its sole discretion, implement a
general rate rebasing consistent with this Section 9.4.2 on the first Rate Rebasing Date if the
Regulatory Office determines that circumstances warrant such an action.

9.4.3 Rebasing Convergence Adjustment

The “Rebasing Convergence Adjustment” to be used for the purposes of calculating the
Rates Adjustment Limit for each of the five Charging Years of the Rebasing Period shall be
determined as follows:

(i) where the Rebasing Adjustment is found to be positive, the Rebasing Convergence
Adjustment for the first Charging Year of the Rate Rebasing Period shall be equal
to the Rebasing Adjustment, and the Rebasing Convergence Adjustment for each
of the following four Charging Years shall be zero; and

(ii) where the Rebasing Adjustment is found to be negstive, the Rebasing Adjustment
for each of the five Charging Years of the Rebasing Period shall be equal to the
Rebasing Adjustment divided by five.

The Regulatory Office shall notify the Concessionaire in writing of each of the rebasing
Convergence Adjustments that will apply in respect of the following Rate Rebasing Period by June 30
prior to the Rate Rebasing Date.

9.4.4 Expiration Payment

In the event that the Regulatory Office determines, at any time from and after the second
Rate Rebasing Date, that the Concessionaire shall incur significant capital expenditures in carrying out
the Concessionaire’s responsibilities under this Agreement which (in the judgment of the Regulatory
Office) should not be recovered through immediate rate adjustments, the Regulatory Office may
propose to the Concessionaire that this Agreement be amended to provide for the payment to the
Concessionaire on the Expiration Date of a lump-sum amount designed to reimburse the
Concessionaire for all or a portion of such unforeseen capital expenditure (the “Expiration Payment”).
Any Expiration Payment shall be treated by the Regulatory Office as an anticipated Receipt for
purposes of making rate adjustment calculations under this Article 9. Any Expiration Payment may be
discharged through the delivery to the Concessionaire of a U.S. Dollar-denominated debt instrument
issued by MWSS or by another public-sector entity owned by the Republic but, in either case, with the
full faith and credit guarantee of the Republic, ranking at least pari passu with all other unsecured and
unsubordinated external debt obligations of the Republic, having a cash value to such Expiration
Payment.

9.4.5 Concessionaire’s Right of Appeal

If the Concessionaire disputes a determination by the Regulatory Office made in accordance

with Section 9.4.2, the Concessionaire shall have until July 31 prior to the Rate Rebasing Date to refer
the matter to the Appeals Panel for determination, as described in Section 12.4 (ii) below.
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9.5 Connection Charges

(iii) For connections or reconnections to a water main or a public sewer (each a “Connection”)
that are both located less than 25 meters from the connection point and are to residential
Customers the Concessionaire shall have the right to charge each Customer requesting such
a Connection a fee not to exceed P3,000, which amount shall automatically be adjusted on
January 1st of each year by the percentage change in the Consumer Price Index for the
preceding year (each a “Connection Charge”). Within three months after the
Commencement Date, the Concessionaire shall with the approval of the Regulatory Office
promulgate rules that permit payment of Connection Charges in installments over a five-
year period by Low-Income Customers.

(iv) For Connections to a water main or a public sewer located more than 25 meters from the
connection point or for Connections to non-residential Customers, the Concessionaire shall
have the right to charge each Customer requesting such a Connection a fee equal to the costs
reasonably and efficiently incurred by the Concessionaire in making that Connection,
including the costs of upgrading or restoring existing connections or metering facilities to
acceptable technical standards.

Notwithstanding anything to the contrary in this Section 9.5, there shall be no connection
charge for public standpipes.

9.5.1 Notification to Customer

Within five days after receiving a request from a customer for a Connection, the
Concessionaire shall notify the Customer in writing of the proposed charge for making that
Connection. Subject to Section 5.1.3 and Section 5.2.2, Connections shall be carried out by the
Concessionaire as promptly as may be practicable following the Customer’s written acceptance of the
related charge. A Customer shall have the right to notify the Regulatory Office if it objects to the
charge proposed by the Concessionaire and the Regulatory Office shall determine in its sole opinion
whether such Charge is reasonable and notify the Concessionaire whether an adjustment is required.

9.5.2 Authority to Prescribe Maximum Connection Charges

If the Regulatory Office determines at any time that the Concessionaire is setting charges for
connections that are inconsistent with the standards set out in Section 9.5 (ii) above, the Regulatory
Office, upon not less than 30 days’ prior written notice to the Concessionaire, shall have the authority
to prescribe a schedule of maximum charges consistent with those standards.

ARTICLE 10. EVENTS OF EARLY TERMINATION; PENALTIES

10.1 MWSS Event of Termination

Each of the following events shall constitute an “MWSS Event of Termination” under this Agreement:

(i) MWSS, acting on its own behalf or at the direction of any Philippine governmental
authority, shall make an assignment for the benefit of creditors, petition or apply to any
tribunal for a receiver or a trustee for itself or for any substantial part of its property,
commence any judicial or other legal 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
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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 and the occurrence of any or all of the above
events shall materially impair the rights of the concessionaire under this Agreement;

(ii) The Undertaking Letter, or any governmental authorization or approval necessary to enable
MWSS perform any of its material obligations under this Agreement, shall be revoked,
withdrawn or withheld or shall otherwise fail to be issued or to remain in full force and
effect; and

(iii) MWSS shall fail to perform an obligation under this Agreement of a kind or to a degree that
such failure effectively prevents the Concessionaire from carrying out its responsibilities
under this Agreement and such failure continues for a period of not less than 30 days after
written notice from the concessionaire to MWSS.

10.2 Concessionaire Event of Termination

Each of the following events shall constitute a “Concessionaire Event of Termination” under this
Agreement:

(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;

(ii) The Concessionaire shall fail to perform an obligation under this Agreement of a kind or to a
degree such that (a) in the reasonable opinion of the Regulatory Office, such failure amounts
to an effective abandonment of the Concession Agreement because it jeopardizes the
provision of essential water and sewerage supply services in all or any significant part in the
Service Area and (b) such failure continues for a period of not less than 30 days after written
notice from the Regulatory Office to the Concessionaire;

(iii) The Concessionaire shall in the reasonable opinion of the Regulatory Office, fail to perform
any material obligation of the Concessionaire set out in this Agreement (other than an
obligation described in (ii) above) for which the Regulatory Office shall have determined
that a financial penalty pursuant to Section 10.4 would be inappropriate or ineffective, if
such failure shall continue for a period of not less than 180 days after written notice from the
Regulatory Office to the Concessionaire.

10.3 Early Termination Procedures

10.3.1 Notice

If a Concessionaire Event of Termination shall have occurred and be Continuing, the

Regulatory Office may give written notice of the early termination of the Concession to the
Concessionaire (with a copy to the Appeals Chairman), and the Concession granted hereby shall
terminate 60 days after the date of such notice unless such termination is stayed by the Appeals Panel
or the Concession Lenders notify MWSS of their intention to exercise their right to nominate a
Qualified Replacement Operator pursuant to Section 10.3.2 (iii)(A). If an MWSS Event of
Termination shall occur and be continuing the Concessionaire may give written notice of the early
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termination of the Concession to MWSS (with a copy to the Appeals Panel), and the Concession
granted hereby shall terminate on the date set out in such notice (which date shall not be less than 60
days, nor more than 180 days, after the date of such notice) unless such termination is stayed by the
Appeals Panel. The date of early termination specified in a notice delivered pursuant to this Section
10.3.1, as such date may be extended by the Appeals Panel as a result of a stay, is referred to herein as
the “Early Termination Date”.

10.3.2 Early Termination

(i) Within 30 days after the giving of any notice terminating the Concession pursuant
to Section 10.3.1, the Regulatory Office shall determine the amount (the “Early
Termination Amount”) payable in accordance with clause (ii) of this Section
10.3.2 following an MWSS Event of Termination, or payable in accordance with
clause (iii) of this Section 10.3.2 following a Concessionaire Event of
Termination. The Regulatory Office shall promptly give written notice to each of
MWSS, the Concessionaire and the Appeals Panel of the Early Termination
Amount and shall furnish a copy of all supporting calculations.

(ii) Following an MWSS Event of Termination:

(A) the then-outstanding amount of all Concessionaire Loans (including the

short-term portion thereof) shall be assumed by MWSS or by another
public-sector entity owned by the Republic, but in either case, with a full
faith and credit guarantee of the Republic, ranking at least pari passu
with all other unsecured and unsubordinated external debt obligations of
the Republic;

(B) the Concession (including all fixed assets existing as of the Early
Termination Date but excluding all current assets and current liabilities
other than the short-term portion of the Concessionaire Loans) shall
revert to MWSS for a payment to the Concessionaire (the “Early
Termination Amount”) equal to an amount, determined by an outside
auditor appointed by the Regulatory Office, equal and opposite in sign
to the Net Present Value as at the Early Termination Date of the Cash
Flows occurring between the Commencement Date and the Early
Termination Date of the Cash Flows occurring between the
Commencement Date and the Early Termination Date less the then-
outstanding amount of the Concessionaire Loans (in the event that such
Early Termination Amount is a negative number, the Early Termination
Amount shall be deemed to be zero); and

(C) the Early Termination Amount payable by MWSS under this Section
10.3.2 (ii) may either:

(1) be paid by MWSS in a lump sum payment not later than 45

days after the Early Termination Date or

(2) at the option of MWSS, be discharged through the delivery to

the Concessionaire of a U.S. Dollar denominated debt
instrument issued by MWSS or by another public-sector entity
owned by the Republic but, in either case, with the full faith
and credit guarantee of the Republic, ranking at least pari
passu with all other unsecured and unsubordinated external
debt obligations of the Republic, having a cash value (if
discounted in the secondary market on the date of delivery
thereof to the Concessionaire)equal to the Early Termination
Amount.
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(iii) Following a Concessionaire Event of Termination:

(A) All of the concessionaire’s right, title and interest in the Concession shall be
assigned by the Concessionaire to a Qualified Replacement Operator (acceptable
to the Regulatory Office) nominated by the Concessionaire Lenders; provided
however, that if the Concessionaire Lenders do not nominate such a Qualified
Replacement Operator within 6 months of a notice terminating the Concession
pursuant to Section 10.3.1, MWSS shall pay to the Concessionaire the Early
Termination Amount (set forth in sub-clause (B) below) and the Concession shall
thereupon automatically terminate and revert to MWSS with no further liability or
obligations on the part of MWSS to the Concessionaire or to the Concessionaire
Lenders. In either case, MWSS may draw upon the Performance Bond to recover
from the Concessionaire an amount equal to the out-of-pocket costs and expenses
incurred by MWSS as a result of such Concessionaire Event of Termination.

(B) In the event that the Concessionaire Lenders do not nominate Qualified
Replacement Operator pursuant to sub-clause (A) above, the Concessionaire and
MWSS agree that it would not be feasible to determine the total amount of losses,
costs and expenses that MWSS would incur as a result of a Concessionaire Event
of Termination. Accordingly, MWSS and the Concessionaire agree that, as a
reasonable pre-estimate of such losses, costs and expenses, following a
Concessionaire Event of Termination, the Concession (including all current and
fixed assets existing as of the Early Termination Date, but excluding any
liabilities associated therewith) shall revert to MWSS for a discounted payment,
(the “Early Termination Amount”), which shall equal 75 percent of the value of
such current assets and 75 percent of the depreciated value of all fixed assets
installed by the Concessionaire in the Service Area after the Commencement Date
(excluding Disapproved Assets) and all improvements to such fixed assets
existing in the Service Area on the Commencement Date, determined as of the
Early Termination Date by an outside auditor appointed by the Regulatory Office
in accordance with Philippine generally accepted accounting principles, provided,
however, that the Early Termination Amount shall not exceed the then-outstanding
Concessionaire Loans and any other indebtedness incurred by the Concessionaire
in connection with the Concession and provided further, however, that such Early
Termination Amount (or the cash proceeds from the sale of the debt from the sale
of the debt instrument referred to in clause (C) (2) below) shall be applied to
repay then-outstanding Concessionaire Loans and any such other indebtedness.

(C) the Early Termination Amount payable to the Concessionaire by MWSS under
sub-clause (B) of this Section 10.3.2 (iii) may either:

(1) be paid by MWSS in a lumpsum payment not later than 45 days after the
Early Termination Date or

(2) at the option of MWSS, be discharged through the delivery to the

Concessionaire of a U.S. Dollar-denominated debt instrument issued by
MWSS or by another public –sector entity owned by the Republic,
ranking at least pari passu with all other unsecured and unsubordinated
external debt obligations of the Republic, having a cash value (if
discounted in the secondary market on the date of delivery thereof to the
Concessionaire) equal to the Early Termination Amount.

10.3.3 Appeal

(i) Upon receipt of a notice of early termination pursuant to Section 10.3.1 above (other than a
notice which specifies an MWSS Event of Termination of the kind described in Section 10.1
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(i) or a Concessionaire Event of Termination of the kind described in Section 10.2 (i)
above), the recipient shall have the right within 30 days thereafter to refer the matter to the
Appeals Panel and to seek a stay in connection with such Appeal. The Appeals Panel shall
have 60 days from receipt of such notice to deliver its determination by written notice to the
Regulatory Office and the Concessionaire in accordance with Article 12. Until such
determination is made by the Appeals Panel, the Concession shall continue and the parties
shall continue to perform their respective obligations hereunder.

(ii) Either the Concessionaire or MWSS may challenge the calculation of the Early Termination
Amount by written referral to the Appeals Panel made within 30 days after receipt of the
Regulatory Office’s calculation of the Early Termination Amount. The challenging party
shall indicate in its referral the amount that it believes is the appropriate termination amount
calculated in a manner consistent with Section 10.3.2 above. Within 60 days of any such
referral, the Appeals Panel shall either confirm the Early Termination Amount determined
by the Regulatory Office or confirm the termination amount proposed by the Challenging
Party, whichever the Appeals Panel finds is most consistent with the requirements of Section
10.3.2 above.

10.4 Penalties for Failure to Meet Service Obligations

A failure by the Concessionaire to meet any Service Obligation which continues for more than 60 days
(or 15 days in cases where the failure could adversely affect public health or welfare) after written notice thereof
from the Regulatory Office to the Concessionaire shall constitute a basis for the Regulatory Office to assesss
financial penalties against the Concessionaire. The amount of any such penalty shall be equal to 25% of the
costs that, in the reasonable opinion of the Regulatory Office, the Concessionaire will incur in order to meet the
Service Obligation in question; provided, however, that if the Concessionaire does not meet such Service
Obligation within 180 days, the amount of the penalty shall be equal to 50% of such costs. The Concessionaire
shall pay any penalties assessed in connection with this Section to the Regulatory Office within 30 days after
receipt of a demand thereof. Such penalties shall not be regarded as an Expenditure of the Concession. In the
event the Concessionaire fails to make timely payment of an assessment pursuant to this Section 10.4, the
Regulatory Office may draw the U.S. dollar equivalent of such unpaid amount under the Performance Bond in
accordance with Section 6.9 above or may treat such non-payment as a GEA in accordance with Section 9.3.1.
Notwithstanding the foregoing, no penalties will be assesses in respect of any failure to meet water quality
standards identified by this Section 10.4 unless such failure continues after 12 months following the
Commencement Date. All penalties received by the Regulatory Office pursuant to this Section 10.4 shall be
rebated to Customers affected by the Concessionaire’s failure to meet Service Obligations in such manner as the
Regulatory Office deems appropriate.

ARTICLE 11. REGULATORY OFFICE

11.1 Organization

The MWSS Board of Trustees shall establish and fund a regulatory Office (the“Regulatory Office”)
to be organized and operated in a manner consistent with the MWSS Board of Trustees may make from time to
time, and shall have the functions and powers described in that Exhibit. Decisions of the Regulatory Office
requiring action by the MWSS Board of Trustees, including decisions affecting the level of Standard Rates, shall
promptly be submitted to the Board in accordance with Section 7.1 hereof.

11.2 Funding

Not later than 10 days after the Commencement Date, MWSS shall allocate from the Concession Fees
received from the Concessionaire and the Other Operator the amount of 100 Million Pesos which shall
constitute the budget of the Regulatory Office for the year 1997. Not later than January 10 of each subsequent
year, MWSS shall allocate from the Concession Fees paid in that year by the Concessionaire and the Other
Operator the annual budget for the Regulatory Office and MWSS for that year, provided that such annual budget
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shall not for any year exceed 200 Million Pesos, subject to annual CPI adjustments, 100 Million Pesos of which,
as so adjusted, shall be allocated by MWSS for the Regulatory Office.

ARTICLE 12. DISPUTE RESOLUTION

12.1 Consultation

The parties hereto agree to use reasonable efforts to resolve any disagreements or disputes concerning the
interpretation or implementation of this Concession Agreement through mutual consultation and negotiation.

12.2 Arbitration

All disagreements, disputes, controversies or claims arising out of or relating to this Agreement or the
interpretation hereof or any arrangements relating hereto or contemplated herein or the breach, termination or
invalidity hereof (including all decisions by the Regulatory Office with respect to the Concession) which cannot
be resolved through consultation and negotiation among the parties hereto shall be finally settled by an
arbitration proceedings in accordance with the arbitration rules of the United Nations Commission on
International Trade Law as in effect on the dates of this Agreement (the “Rules”), except insofar as the Rules
conflict with the provisions of this Agreement.

12.3 Composition of Appeals Panel

Not less than 30 days to the commencement of each Rate Rebasing period, the Concessionaire and the
Regulatory Office shall each appoint one member of the Appeals Panel to serve for the following Rate Rebasing
Period. If either party fails to appoint a member shall be appointed by the President (for the time being) of the
International Chamber of Commerce. (in the case of disputes between the Concessionaire and the Other
Operator, on the one hand, and MWSS, on the other, the Concesiionaire and the Other Operator shall jointly
agree on the appointment of one member to the Appeals Panel). For matters involving Major Disputes (as
defined below), the President (for the time being) of the International Chamber of Commerce shall designate a
third member shall act as the chairman of the Appeals Panel (the “Appeals Chairman”). For matters involving
Minor Disputes (as defined below), the two members so appointed shall designate a third member and the third
member shall act as the Appeals Chairman. Each member of the Appeals Panel (other than the Appeals
Chairman) shall be a resident (but need not be a citizen) of the Philippines. Members appointed to the Appeals
Panel shall be individuals of good business reputation who have no prior business connection with any party to
this Agreement or with the Other Operator. In the event of the death, incapacity or resignation of any member
of the Appeals panel, the appointing party (including, where appropriate, the President of the International
Chamber of Commerce) for such members shall promptly appoint a successor to serve out the unexpired term of
such member. An individual may be reappointed to serve on the Appeals Panel for more than one Rate
Rebasing Period.

12.4 Procedures

The Appeals Panel shall decide Disputes in accordance with the following procedure:

(i) Disputes may be referred to the Appeals Panel by any party hereto by providing written
notice to the Appeals Chairman of the Appeals Panel and the other parties hereto (each a
“Dispute Notice”) setting out in reasonable detail the circumstances of such dispute.

(ii) Disputes related to (A) a Rebasing Dispute (described below), (B) an appeal of the
determination of a GEA or Extraordinary Price Adjustment pursuant to Section 9.3.3, (C) an
appeal of the calculation of the Termination Amount pursuant to Section 10.3.3, (D) the
amount and price of Bulk Water transported from Service Area West to Service Area East,
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(E) the delegation of responsibilities between the concessionaire and the Other Operator in
the Joint Venture or (F) a contested notice of termination pursuant to Section 10.3.1 (each a
“Major Dispute”) shall be referred to an Appeals Panel constituted under the chairmanship
of a Appeals Chairman appointed by the President of the International Chamber of
Commerce. All Disputes other than Major Disputes (each a “Minor Dispute”) shall be
referred to the Appeals Panel as provided in Section 12.3 above.

(iii) Dispute Notices referred by the Concessionaire relating to Rate Rebasing Adjustments (each
a “Rebasing dispute”) shall include a detailed description of the Concessionaire’s alternative
description of the Concessionaire’s alternative proposal for a Rate Rebasing Adjustment for
the next Rate Rebasing Period, together with information as to how such Adjustment was
calculated. The Regulatory Office shall have 15 days after receipt of notice of a Rebasing
Dispute in which to submit to the Appeals Panel the Rate Rebasing Adjustment for the next
Rate Rebasing Period determined by the Regulatory Office in accordance with Section 9.4.2
above, together with information as to how such Adjustment was calculated. After making
such investigation and conducting such hearings into the matter as the Appeals Panel deems
appropriate, the Appeals panel shall, by not later than September 30 of the year in which a
Rebasing Dispute is referred to it, accept either the Rate Rebasing Adjustment as determined
by the Regulatory Office or the alternative Rate Rebasing Adjustment proposed by the
Concessionaire.

(iv) Dispute Notices may be referred by the Concessionaire or the Other Operator in connection
with matters arising under the Interconnection Agreement or the supply of Raw Water
pursuant to Section 3.9 (each a “ Raw Water Dipsute”). The Raw Water Agreement shall
contain a dispute resolution provision submitting all disputes under that Agreement to the
Appeals Panel in a manner consistent with this Article 12.

(v) All disagreements, disputes, controversies or claims referred to the Appeals Panel, other
than those involving a Rebasing Dispute, shall be decided in such manner as the Appeals
Panel determines in its sole discretion to be appropriate.

(vi) Except as otherwise set forth herein, the Appeals Panel shall make a decision on any matter
referred to it within a period of 90 days from receipt of a dispute Notice. Such decision
period may be extended by mutual agreement of the parties to the dispute. Each decision
must have the written concurrence of at least two of the three members of the Appeals Panel.

(vii) The Appeals Panel may stay any termination of the Concession as notified pursuant to
Section 10.2.2 pending its determination of the validity of such termination.

(viii) The Appeals Panel may retain the services of legal, economic and technical consultants as
the Panel deems appropriate.

(ix) The Appeals Panel proceedings shall be held in English, and the place for the proceedings
shall be Manila.

(x) The appeals Panel may from time to time adopt procedural rules or guidelines consistent
with the terms of this Concession Agreement, and such rules and guidelines shall be binding
on the parties hereto.

12.5 Waiver of Right to Appeal

Any decision or award of the Appeals Panel shall be final and binding upon the parties hereto. To the
maximum extent permitted by applicable law, each party hereby waives any right to seek any interlocutory or
other relief from any judicial or regulatory body, or to appeal or seek the review of an Appeals Panel award by
any court, regulatory body or other tribunal. Each of the parties hereto agrees that an award of the Appeals
Panel may be enforced against it or its assets wherever they may be found and that judgment upon such award
may be entered in any court having jurisdiction thereof. Each such party hereby waives and agrees not or plead
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any immunity (whether on the basis of sovereignty or otherwise) to which such party or its assets might
otherwise be entitled in connection with any such enforcement proceeding.

12.6 Costs of the Panel

(i) Incurred by the Appeals Panel in connection with any proceeding brought before it relating
solely to the Concession (including the fees and expenses of panel members and legal,
economic or technical consultants retained by the Appeals Panel), shall be apportioned
between the parties as the Appeals Panel shall direct and the Concessionaire’s share of such
costs shall be treated as an Expenditure. One half of the estimated costs of each proceeding
(as determined by the Appeals Panel) shall be due prior to the Commencement of such
proceeding. The Appeals Panel shall invoice the appropriate party or parties for the balance
of such costs within 30 days of delivering its decision in respect of each proceeding and
such balance shall be payable within 10 days after receipt of the invoice.

(ii) The Appeals Chairman shall be entitled to a per diem compensation at such rate as the
President of the International Chamber of Commerce may recommend. The other members
of the Appeals Panel shall each be entitled to a per diem compensation equal to 2,500 Pesos
per day (or portion of a day) while in session. This per diem rate shall automatically be
adjusted on January 1st of each year by the percentage change in the Consumer Price Index
for the preceding year.

(iii) In any proceeding in which the Concessionaire, the Other Operator or MWSS are parties,
the Appeals Panel shall assess costs ratably to the parties to such proceeding.

(iv) In the event the Concessionaire does not make timely payment of any charges payable by
its pursuant to this Section 12.6., the U.S. dollar equivalent of such unpaid amount may be
drawn under the Performance Bond in accordance with Section 6.9 above.

(v) The Appeals Panel shall be entitled to use the secretarial and administrative support services
of the Regulatory Office free of charge.

ARTICLE 13. INFORMATION AND REPORTING REQUIREMENTS

13.1 General Requirements to Provide Information

The Concessionaire shall have a general duty to provide to the Regulatory Office all information that
the Regulatory Office may reasonably require in order to permit the Regulatory Office to monitor the
Performance of the Concessionaire in relation to its obligations under this Agreement. Such information shall
include, and not limited to:

13.1.1 Service Performance Information

The Concessionaire shall provide to the Regulatory Office not more than 30 days following
the end of each calendar quarter a report of its performance with respect to the provision of water and
sewerage services in the Service Area which shall contain the information specified in Schedule 6
hereto, as such Schedule may be revised by the Regulatory Office from time to time.

13.1.2 Financial Information

The Concessionaire shall provide to the Regulatory Office not later than 60 days following
the end of each calendar year a report of the financial performance of the Concession. Such report
shall include (i) an analysis of revenue by source and revenue from other sources, (ii) an analysis of
operating costs which distinguishes between water supply, sewerage and other services, (iii) an
analysis of capital expenditures and investments which distinguishes between water supply, sewerage
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and other services, and (iv) the other information specified in Schedule 7 hereto, as such Schedule
may be revised by the Regulatory Office from time to time.

13.2 Audits

Not less frequently than once a year, the Concessionaire’s books and records shall be audited by an
independent auditor appointed by, or acceptable to, the Regulatory Office, pursuant to internationally accepted
accounting practices. In addition, the Regulatory Office may, upon giving not less than 15 days’ prior written
notice to the Concessionaire, require that the Concessionaire, require that the Concessionaire’s books and
records relating to the Concession to be audited on an interim basis by the Regulatory Office or by an outside
auditor. The Concessionaire shall cooperate fully with all such audits.

ARTICLE 14. INDEMNITIES

14.1 Concessionaire Indemnity

The Concessionaire shall indemnify and hold MWSS and its employees, servants and agents harmless
from and against any and all liabilities, claims, demands, actions, suits, losses, damages, costs and expenses
(including reasonable attorney’s fees) payable to third persons resulting from the operation and maintenance of
the Facilities by the Concessionaire, and the performance by the Concessionaire of its obligations under the
Concession, on or after the Commencement Date, except to the extent of any foregoing results from the
negligence or willful misconduct of MWSS.

14.2 MWSS Indemnity

MWSS shall indemnify and hold the Concessionaire and its respective employees, servants and agents
harmless from and against any and all liabilities, claims, demands, actions, suits, losses, damages, costs and
expenses (including reasonable attorney’s fees) payable to third persons arising out of the operation and
maintenance of the Facilities by MWSS prior to the Commencement Date.

14.3 Procedures for Indemnification

Each of MWSS and the Concessionaire shall promptly notify the other of any claim for
indemnification pursuant to any of the above Sections in this Article 14 and shall include sufficient information
to enable the other party to assess the circumstances relating to such claim or potential claim. Each of MWSS
and the Concessionaire shall cooperate fully with the other party in defense of any such claims. The
indemnifying party shall have the right to assume the defense, appeal or settlement of such claims with respect
to which indemnify has been invoked within 20 days after receipt of notice thereof from such indemnified party.

ARTICLE 15. CONDITIONS PRECEDENT

15.1 General Conditions

The obligation of each party hereto to effect the transactions contemplated by this Agreement shall be
subject to the satisfaction at or prior to the Closing Date of the following general conditions;

(i) no order, statute, rule, regulation, executive order, injunction, stay, decree or restraining
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order shall have been enacted, entered, promulgated or enforced by any court of competent
jurisdiction or governmental or regulatory authority or instrumentality having jurisdiction
over the matter that restrains, prohibits or declares illegal the consummation of the
transactions contemplated hereby, and no action, suit, injury or proceeding shall have been
instituted or threatened by any governmental or regulatory authority or instrumentality
having jurisdiction over the matter that seeks to restrain, prohibit or declare illegal the
consummation of the transaction contemplated hereby; and

(ii) all waivers, consents, approvals or authorizations required to be obtained from, and all
notices, declarations, reports or filings required to be made with, any governmental or
regulatory authority or instrumentality in connection with the consummation of the
transactions contemplated hereby, shall have been made or obtained.

15.2 Conditions to Obligations of MWSS

The obligations of MWSS to effect the transactions contemplated by this Agreement shall be subject
to the satisfaction at or prior to the Closing Date of the following additional conditions, unless such conditions
are waived by MWSS:

(i) the Concessionaire shall have performed in all material respects the obligations required
under this Agreement to be performed by it at or prior to the Closing Date;

(ii) the representations and warranties of the Concessionaire contained herein be true and
correct in all material respects at and as of the Closing Date as if made at and as of such
date except to the extent that a different time is specifically stated in any such representation
and warranty; and

(iii) MWSS shall have received the documents and instruments set out below:

(a) an opinion from special Philippine counsel to the Concessionaire, acceptable to

the Office of the Government Corporate Counsel dated as of the Closing Date and
substantially in the form attached hereto as Exhibit B;

(b) a certificate, dated as of the Closing Date, from a duly authorized officer of the
Concessionaire to the effect that the representations and warranties of the
Concessionaire contained in this Agreement are true and correct in all material
respects as of the Closing Date;

(c) all other documents, instruments, writings and other items required to be
delivered by the Concessionaire at or prior to the Closing Date pursuant to this
Agreement or otherwise reasonably requested by MWSS in connection herewith;

(d) certified true copies of resolutions adopted by the Board of Directors of the
Concessionaire authorizing the execution, delivery and performance of this
Agreement;

(iv) and the Concessionaire and the Other Operator shall have entered into the Joint Venture.

15.3 Conditions to Obligations of the Concessionaire

The obligations of the Concessionaire to effect the transactions contemplated by this Agreement shall
be subject to the satisfaction at or prior to the Closing Date of the following additional conditions, unless such
conditions are waived by the Concessionaire:
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(i) MWSS shall have performed in all material respects the obligations required under this
Agreement to be performed by it at or prior to the Closing Date;

(ii) the representations and warranties of MWSS contained herein shall be true and correct in all
material respects at and as of the Closing Date as if made at and as of such date except to
the extent that a different date is specifically stated in any such representation and warranty;

(iii) the Concessionaire shall have received the documents and instruments set out below:

(a) an opinion from the Office of the Government Corporate counsel, dated as of the
Closing Date and substantially in the form attached hereto as Exhibit C;

(b) a certificate, dated as of the Closing Date, from a duly authorized officer of
MWSS to the effect that the representations and warranties of MWSS contained in
this Agreement are true and correct in all material respects as of the Closing Date;

(c) a copy of the letter setting forth Raw Water supply arrangements as described in
Section 3.9 above;

(d) an undertaking letter ( the “Undertaking Letter”) from the Republic signed by the
Secretary of Finance setting forth the undertaking of the Republic in connection
with the transactions described in this Agreement substantially in the form of
Exhibit D hereto;

(e) copies of the releases and quitclaims referred to in Section 6.1.1 (i) above; and

(f) certified true copies of resolutions adopted by the MWSS Board of Trustees
authorizing the execution, delivery and performance of this Agreement.

ARTICLE 16. MISCELLANEOUS

16.1 Assignment

This Agreement and all the provisions hereof shall be binding upon and insure to the benefit of the
parties hereto and their respective successors and permitted assigns. Neither this Agreement nor any rights
hereunder shall be assigned by either party hereto, nor shall any party delegate any of its obligations hereunder,
without the prior written consent of the other party, and any purported assignment or delegation absent such
consent shall be void; provided, however, that the Concessionaire may assign its right to receive any payments
or other consideration hereunder (including the right to receive any Termination Amount) as security for
Concessionaire Loans.

16.2 Amendments

Any amendment of any provision of this Agreement shall be in a writing signed by the parties and
acknowledged by the Republic acting through the Secretary of Finance.

16.3 Governing Law

THIS AGREEMENT SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE BY

AND CONSTRUED IN ACCORDANCE WITH THE LAW OF THE REPUBLIC OF THE PHILIPPINES.
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16.4 Notices

Any notices or other communications required or permitted hereunder or otherwise in connection

herewith shall be in writing and shall be delivered personally (including by courier), telexed, sent by facsimile
transmission or sent by certified or delivered personally, or if telexed or sent by facsimile transmission, when so
transmitted or mailed, upon receipt, as follows:

If to MWSS to:

Metropolitan Waterworks and Sewerage System

4th Floor Administration Bldg., MWSS Complex
489 Katipunan Road, Balara
Quezon City 1105
Philippines

(with a copy to the Regulatory Office)

Attn: MWSS Administrator
Facsimile: 921-2887
Telephone: 922-3757 or 922-2969

If to the Concessionaire to:

Manila Water Company Incorporated

2nd Floor Administration Bldg., MWSS Complex
489 Katipunan Road, Balara
Quezon City 1105
Philippines

Attn: MWCI President

Facsimile: 922-3761
Telephone: 926-7999
Hotline: 1627

If to the Regulatory Office to:

MWSS regulatory Office

3rd Floor Engineering Bldg., MWSS Complex
489 Katipunan Road, Balara
Quezon City 1105
Philippines

Attn: Chief Regulator

Telefax: 435-8900

or such other address as the person to whom notice is to given has furnished in writing to the other parties. A
notice of change in address shall not be deemed to have been given until received by the addressee.
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16.5 Counterparts

This Agreement may be executed in three counterparts or more, each of which when so executed shall
be deemed an original, and all of which together shall constitute one and the same instrument.

16.6 Entire Agreement

This Agreement (including any Exhibits, Schedules, documents and instruments referred to herein)
constitute the entire agreement and supersede all other prior agreements and understandings, both written and
oral, among the parties. Each of the parties undertakes to execute such documents and perform such acts as may
reasonably be necessary to give effect to this Agreement.

16.7 Headings

The descriptive headings of the several Articles and Sections of this Agreement are inserted for
convenience only and do not constitute a part of this Agreement.

16.8 Expenses

Each party hereto shall bear its own expenses in connection with the preparation and negotiation of
this Agreement and any related documents.

16.9 Third Party Beneficiaries

Except as otherwise expressly provided herein, this Agreement is not intended to confer upon any person other
than the parties hereto any rights or remedies hereunder.

16.10 Force Majeure

No failure or omission to carry out or observe any terms, provisions or conditions of this
Agreement shall give rise to any claim by any party against another party or be deemed to be a breach
or default of this Agreement if the same shall be caused or arise out of an Event of Force Majeure, as
defined below.

16.10.1 Events of Force Majeure

The following events shall constitute an “Event of Force Majeure”: any war, declared or not,
or hostilities or belligerence, blockade, revolution, insurrection, riot, public disorder, expropriation,
requisition, confiscation, nationalization or prolonged obstruction of the exercise of rights or powers
referred to in Section 7.2, export or import restrictions closing of harbors, docks, canals or other
assistance to or adjuncts of shipping or navigation of or with any place, rationing or allocation,
whether imposed by law, decree or regulation by, or by compliance of industry at the insistence of,
any governmental authority of or within the Republic, or (B) fire, unusual flood, drought, earthquake,
pollution of Raw Water (other than caused by the act or omission of the party invoking such Event of
Force Majeure), volcanic eruption, storm, lightning, tide (other than normal tide), tidal wave,
unusually severe weather conditions, perils of the sea, accidents of navigation or breakdown or injury
of vessels, accidents to harbors, docks, canals or other assistance to or adjuncts of shipping or
navigation, epidemic, quarantine, strikes or combination of workmen, lockouts or other labor
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disturbances, or any other event, matter or thing wherever occurring, which shall not be within the
reasonable control of the party affected thereby; provided, however, that no expropriation, requisition,
confiscation, nationalization or prolonged obstruction of the exercise of rights or powers referred to in
Section 7.2 by the Republic or any governmental authority of or within the Republic shall constitute
an Event of Force Majeure relieving MWSS of any of its obligations hereunder.

16.10.2 Duties of Party Invoking an Event of Force Majeure

The party invoking an Event of Force Majeure shall (i) notify in writing each other party as soon as
reasonably possible of the nature of the Event of Force Majeure and the extent to which the Event of Force
Majeure suspends the affected party’s obligations under this Agreement and (ii) resume performance of its
obligations as soon as the effects of the Event of Force Majeure cease to exist.

16.10.3 Minimizing Loss Due to an Event of Force Majeure

The parties will consult with each other and take all reasonable steps to minimize the losses of either
party resulting from an Event of Force Majeure.

16.11 Conduct of the Concessionaire Pending the Expiration Date

The Concessionaire hereby covenants that, from the date three months prior to and including the
Expiration Date, unless MWSS shall otherwise consent in writing (which consent shall not unreasonably be
withheld), the Concessionaire shall conduct the business and operations of the Concession in the ordinary and
usual course in a manner consistent with past best practice and, without limiting the generality of the foregoing,
the concessionaire shall:

(i) use its reasonable efforts to preserve and maintain the Facilities and Inventories;

(ii) maintain in accordance with its normal best practices all documents, agreements, contracts
and other corporate records of MWSS relevant to its business and operations;

(iii) at all times comply with all material laws, statutes, rules, regulations, orders and directives
of any governmental authority having jurisdiction over the Concessionaire or its businesses,
except in cases where the application thereof is being contested in good faith or is the
subject of an appeal or other legal challenge;

(iv) give prompt written notice to MWSS of: (a) the commencement of any dispute or
proceeding between the Concessionaire and any governmental body which, if determined
adversely to the Concessionaire, could reasonably be expected to have a material adverse
effect on the Concessionaire’s business or financial condition; (b) the occurrence of any
material event of default in any material agreement of the Concessionaire or any event
which, upon a lapse of time or the giving of notice or both, would become a material event
of default under any such agreement; and (c) the occurrence of any other event which has or
could reasonably be expected to have a material adverse effect on the Concessionaire’s
business or financial condition;

(v) not waive any valuable right owed to the Concessionaire; or

(vi) not reorganize departments or otherwise revise its organizational structure in any material
fashion, other than any such reorganization consistent with the terms hereof.
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16.12 Reversion

Upon the expiration of this Concession on the Expiration Date, all of the rights duties and powers of
the Concessionaire provided under the terms of this Agreement shall automatically revert to MWSS’ successors
or assigns; provided, however, that the Concessionaire bear all liabilities, and shall be entitled to receive and to
retain all revenues, arising out of its operation of the Facilities prior to the expiration of the Concession. MWSS
shall be solely responsible for any taxes, fees or duties payable in connection with such reversion. On the
Expiration Date, the Concessionaire shall retain the all cash and marketable securities and Disapproved Assets (
other than such assets which are integral to the MWSS system) and transfer to MWSS or its successors or
assigns:

(i) the Movable Property in its then-current condition;

(ii) Inventory having a value (adjusted for CPI) at least equal to the Inventory made available to
the Concessionaire on the Commencement Date pursuant to Section 3.5 hereof;

(iii) legal title (free of any liens or encumbrances) to new assets contributed by the
Concessionaire pursuant to Section 1.15; and

(iv) All reports, records, designs, manuals, asset registers, employment records, maps and plans
associated with the provisions of water and sewerage services within the Service Area.

At the time of such expiration, MWSS shall have the option to rebid the Concession or undertake any
other course of action it deems appropriate with respect to the Concession; it being understood that without their
express approval at such time, neither MWSS nor the Republic shall incur any financial obligation in respect of
such rebidding or other undertaking. This Agreement may not be renewed except with the express written
consent of MWSS and the Republic.

16.13 Severability

The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or
enforceability of any other portion or provision. Any invalid or unenforceable portion or provision shall be
deemed severed from this Agreement. The parties shall negotiate an equitable adjustment in the remaining
portions or provisions of this Agreement to effect the underlying purposes of this Agreement.

IN WITNESS WHEREOF, each of the parties has caused this Concession Agreement to be executed
on its behalf by its duly authorized officer, all as of the date first written above.