Japan: Grounds For Optimism: Legal Amendments Affecting Infrastructure In Japan

Last Updated: 15 December 2011
Article by Hiroaki Takahashi

Japan, reeling from the after-effects of the Great Earthquake earlier this year, has a renewed focused on infrastructure, especially that relating to renewable energy. Hiroaki Takahashi of Davis & Takahashi outlines two key legislative changes that could make a big difference to the investment climate.

Two bills having a positive impact on the future development of infrastructure in Japan, including the development of renewable energy power generation facilities, were passed by the Diet [legislature] this year. Coincidentally, both of them were approved by the Cabinet on March 11, 2011, hours prior to the Great Eastern Japan Earthquake that occurred later the same day.

One is the amendment bill (the "PFI Amendment") to the Act on Promotion of Private Finance Initiative (the "PFI Act") which was enacted in June 2011 and will become effective by December 2011. The other is the Act on Special Measures Concerning Procurement of Renewable Electric Energy by Electric Utility Operators, also called 'the feed-in tariff law' (the "FIT Act"). It was enacted in August 2011 and will become effective in July 2012.

Practitioners and investors both inside and outside Japan expect these new laws to become a foundation for the redevelopment of aging infrastructure and also for the development of renewable energy power generation facilities in Japan. The promotion of 'green power' facilities has gained momentum in Japan as an alternative to nuclear energy after the Fukushima meltdown caused by the earthquake and tsunami in March 2011.

Amendment to PFI Act

Since the enactment of the original PFI Act in 1999, a total of 375 projects with an aggregate cost of approximately ¥4.7 trillion (€44 billion; $61 billion) have been completed. However, practitioners have criticised the existing system in that: (i) the size of most projects is small (less than ¥10 billion); (ii) only about 10 percent of the local governments have used the framework under the PFI Act; (iii) more than 70 percent of the projects are carried out by the "Service Procurement" method (where private business operators' costs are recouped through service payments from the government), whereas the "Independent Accounting" method (where the private business operators' costs are collected by payments of user fees, etc. payable by beneficiaries) accounts for only 4 percent; (iv) in general, most projects are small, initiated by governments rather than private business operators. Practitioners claim that this has resulted in the projects being used as an alternative to instalment payments for construction of buildings, rather than "project-based" funding in the true sense.

Therefore, the existing PFI Act has not accomplished the main goal or rationale of PFIs/PPPs, which is: the adoption of private incentives, know-how and money into public services or infrastructure to increase their value while reducing government cost and debt.

The PFI Amendment is aimed at addressing the critical issues by: (i) broadening the types of public facilities that qualify under the Act, to include "rental housing" and "transportation facilities such as ships, aircrafts and satellites"; (ii) adopting a system to allow private business operators to take the initiative to develop and propose PPP programmes and technical proposals to the government; (iii) establishing concession rights whereby governments are expected to receive substantial money in exchange for transferring operating rights of public facilities for a set period. This would provide governments with a source of ongoing income to repay their debts. It also allows the private sector to operate the projects efficiently using their know-how to generate profit at its own risk; (iv) the secondment of governmental officials to the private sector aimed at smooth and efficient implementation of PPP projects, the goal being to provide the private sector with the know-how of government officials and (v) establishing a new PFI Promotion Council with a view to granting statutory power to draft the Basic Policy and to coordinate with relevant government authorities.

As summarised above, the PFI Amendment contains a number of notable features critical to revitalising PFI/PPP projects and increasing their size, variation and profitability. Given the current enormous demand for private investment and engagement in the devastated areas in Eastern Japan, this amendment has potential to attract greater participation from foreign investors and operators.

FIT Act

Original interest in the development of renewable power generation in Japan was driven by the country's almost complete lack of energy resources. Japan relies on imports for more than 95 percent of domestic energy needs. Recently, as part of the measures against global warming, renewable energy has more support. Another incentive has been the economic benefits for businesses associated with the development of renewable energy.

It has been strongly suggested that the development of renewable energy must be materially expanded by adopting the feedin tariff (the "FIT"). Under the FIT system, wholesale electricity suppliers are required to enter into long-term power purchase agreements with fixed-cost base price with renewable energy producers. The pricing is aimed at supporting the higher cost of renewable energy generation. The FIT system is aimed at accelerating investment in renewable energy technologies by guaranteeing return on investment in power generation.

In addition to the above, the Fukushima meltdown significantly catalyzed the national government to support and implement FIT on an urgent basis.

The new FIT Act applies to "renewable energy sources", including solar, wind, hydro, geothermal and biomass. Other renewable energy sources may be added in future by government regulation.

Under the FIT Act, electric utility operators are required to enter into fixed-price power purchase agreements ("PPA") with renewable energy producers that have obtained the approval of the Ministry of Economy, Trade and Industry ("METI"). The fixed price, as well as the effective period for each PPA, is determined by METI. The FIT Act also requires utility operators to connect their electric transmission and related facilities with the renewable energy power generation facilities.

The terms of the PPA are intended to guarantee the return on investment in renewable energy power generation facilities. Therefore, the purchase price and the effective period for the PPA are key factors for investors to consider. Although it is not set forth in the FIT Act, based on a recent statement by the METI Minister in the Diet, the expected price will be ¥15 to ¥20 per kilowatt hour (kwh) for renewable energy other than solar, and ¥35 to ¥40 for residential solar. Moreover, the expected period is 10 to 20 years depending on the depreciation periods of the generation facilities.

The FIT Act allows electric utility operators to shift the burden of costs incurred in the purchase of electricity produced by renewable energy to end-users by charging an additional surcharge. Also, the FIT Act will establish a public institution to adjust the burdens of each electric utility operator by collecting contribution fees from, and paying supporting grant to, the operators.

It is generally expected that the level of the power purchase price and the effective period of the PPAs, as well as the level of surcharge to end-users, will have a significant combined impact on the future development of renewable energy in Japan, in a manner similar to that seen in other countries such as Germany and Spain.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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