Perspective | Special Focus on Early Termination of PPP Projects — Default Scenarios

Generally speaking, government-related breaches of contract primarily include failure to fulfill government commitments, insufficient project capital contributions, adjustments to construction plans, project changes exceeding the approved budget, and delayed government payments. In PPP projects, the government typically holds a dominant position, and the proper conduct of its actions significantly influences the project's progress. Government breaches of contract are a key reason for the termination of PPP projects. Specifically:

PPP projects inherently possess strong public welfare attributes, and many of their activities cannot proceed without the active involvement of the government. Therefore, PPP project contracts often include government commitment clauses, such as providing land-use interfaces, coordinating departments like water, electricity, and transportation, handling construction approval procedures, imposing restrictions on similar competitive projects, and committing to minimum supply volumes (e.g., in wastewater treatment projects). In most cases, these government commitments can become significant obstacles to project implementation—for instance, if land acquisition and relocation efforts are inadequate, project construction simply cannot move forward. In practice, numerous projects have already stalled precisely because of unresolved land requisition and demolition issues.

In PPP projects, the government's funding contribution is relatively low, typically accounting for less than 20% of the project's equity capital. Although this proportion is small, in practice, due to the large scale of project construction—and as local government debt issues continue to come to the forefront—some local governments have been slow to contribute their share, or even fail to fulfill their commitments altogether. Moreover, according to PPP project contracts, the private sector's capital contribution usually aligns proportionally with the government's investment. Consequently, if the government's funding is delayed or cannot be secured, the private sector is likely to follow suit by delaying or refusing its own contribution, ultimately leading to disruptions in the project's implementation. Project Company Financing Conditions are not met, so project financing cannot be secured on time, causing the project to come to a standstill.

During the implementation of PPP projects, especially in the early stages when policies were relatively lenient, many projects were launched prematurely due to insufficient preliminary planning and feasibility studies—often driven by a variety of factors. Some of these PPP projects later encountered discrepancies with real-world conditions or failed to meet regional urban-rural planning requirements, forcing developers to adjust their intended construction plans. For instance, in the announcement titled "Liantai Environmental: Announcement Regarding the Early Termination Agreement of the BOT Project Concession Contract for the Urban Lingling Port Industrial New Area Wastewater Treatment Plant in Hunan Province and the Proposed Sale of Assets," the New Port District Management Committee requested Yueyang Water Affairs to terminate the BOT project concession contract ahead of schedule, citing adjustments made by the Yueyang Municipal Government to the city’s comprehensive water environment management plan. Similarly, in the announcement from Tongji Technology—"Notice on the Early Termination of the BOT Project Concession Contract for the First Phase of the Lulin Wastewater Treatment Plant in Huicheng District"—the Lulin Town Government decided to independently invest in expanding the second phase of the Huizhou No. 8 Wastewater Treatment Plant due to local wastewater treatment needs. Notably, this expansion would require sharing civil engineering structures, electrical facilities, and office buildings originally planned for the first-phase project. To streamline the management of water-related assets, the Lulin Town Government proposed that Huizhou No. 8 wastewater treatment plant prematurely terminate its BOT contract and transfer the concession rights and associated assets back to the government. Moreover, some projects have even gone a step further: while reducing the scope of construction, they’ve inadvertently included additional elements that fall outside the original PPP framework. As a result, despite maintaining the overall investment scale, the nature of the project has fundamentally shifted, raising suspicions that these initiatives may be using the PPP model as a facade to pursue entirely different objectives. Importantly, if such adjustments to project plans proceed without proper consideration of regulatory compliance, and if the private sector partner refuses to cooperate, the government will inevitably face clear contractual liabilities. From the perspective of government procurement laws, this approach directly contradicts the specific construction details outlined in the procurement documents provided to the private sector partner.

The project investment exceeding the budget is a further extension of the aforementioned issues related to adjustments in construction planning. Even without accounting for reductions in project scope, the problem of investment overruns caused by government-initiated project changes is widespread in practice. This often stems from insufficient preliminary project assessments that fail to meet construction requirements, or from the personal, subjective influences of certain local government leaders during the project’s implementation phase—both of which lead to larger-scale project modifications that ultimately surpass the approved investment amount outlined in the initial approval. According to Article 12 of the "Regulations on Government Investment," if the investment estimate proposed in the preliminary design exceeds the investment forecast presented in the approved feasibility study report by more than 10%, the project must undergo a new round of approval procedures. In reality, when a local government proposes project changes resulting in increased investment costs—and coinciding with the waning momentum of PPP policies—social capital entities, particularly state-owned enterprises, tend to tighten their internal controls for PPP projects. As a result, the portion of the investment that exceeds the budget, after undergoing the necessary review process, often fails to gain approval. Simultaneously, banks have tightened their lending policies, leaving the project company unable to secure additional financing. Consequently, the project has reached an impasse.

In practice, aside from user-funded projects, there are government-funded and Feasibility Gap Funding The project commonly faces the issue of delayed government payments. For instance, in the announcement titled "Suzhou Keda: (2023-032) Announcement on the Early Termination of the PPP Contract by the Company's Wholly-Owned Subsidiary," after the Fengning Bureau of Industry and Information Technology paid RMB 23.5287 million for performance assessments covering the first half of 2020, it has since failed to conduct phased performance evaluations or disburse the feasibility gap subsidy. Similarly, in the announcement from Tongji Technology regarding the early termination of the BOT franchise agreement for the Taierzhuang District Wastewater Treatment Plant, the Taierzhuang Water Resources Bureau proposed ending the franchise contract ahead of schedule and transferring the project assets, aiming to systematically address recurring issues such as frequent overflows of wastewater and long-standing arrears in water fees. These challenges are closely tied to the declining land-based fiscal revenues and the ever-growing debt levels of local governments, particularly those that adopted earlier approaches. PPP Model The regions advancing these projects face relatively weak fiscal revenues and are grappling with economic downturn pressures, leaving their financial resources stretched thin. Under such circumstances, after ensuring basic expenditures for people's livelihoods, there is simply no surplus fiscal funding left to cover the government’s payment obligations under PPP projects. In fact, some local governments have even been reluctant to initiate completion and acceptance procedures for projects during the construction phase—or delayed performance evaluation processes for those in the operational phase—simply to avoid fulfilling their payment commitments. While various objective factors undoubtedly play a role, the issue of delayed government payments has directly undermined the interests of private capital partners. For instance, banks may be forced to impose late-payment penalties on loans that aren’t repaid on time; project operations could suffer quality declines; and employees of project companies might face wage arrears. Ultimately, these financial losses will inevitably trickle down—either directly or indirectly—to either the government itself or the public at large.

The PPP model aims to leverage the professional strengths of private capital partners in areas such as project financing, design, construction, and operations, thereby enhancing the government's efficiency in delivering public services. However, in practice, default incidents involving private capital partners have also occurred frequently—such as inadequate project funding and delays during the construction phase. Performance Bond Issues such as lack of provision and unqualified performance evaluations not only fail to leverage the professional strengths of social capital partners, but also hinder the pace of local economic and social development. Specifically:

For most local governments, the primary consideration in adopting the PPP model to advance projects is project financing—after all, the PPP model itself inherently involves financial elements. Financing can be seen as the foundation and lifeline of cooperation between the government and private-sector investors. In practice, however, financing for some PPP projects has fallen short of expectations. This is especially true for private enterprises, whose access to capital and higher financing costs are significantly greater than those of state-owned enterprises. Particularly during periods when PPP policies are becoming increasingly stringent, most financial institutions have adopted a cautious and conservative approach toward financing PPP project companies. Not only do they require private investors to provide guarantees, but they also often mandate that local government platform companies join as co-guarantors. As a result, this squeezes the credit capacity of private investors and escalates the scale of contingent liabilities. Even so, in recent years, many project companies still struggle to secure adequate funding. While socially responsible private investors typically bridge the funding gap through shareholder loans or other means, those with weaker accountability may simply adopt a passive stance, allowing projects to come to a standstill. Without sufficient financing, project construction cannot move forward, leaving both parties with no choice but to terminate the initiative altogether. For instance, Chengdu Luqiao recently announced that its wholly owned subsidiary, Sichuan Yiwei Expressway Co., Ltd., along with the company itself, had received separate notices from the Yibin Municipal Government on the same day, formally terminating both the "Yiwei Expressway Project Investment Agreement" and the "Yiwei Expressway Project Concession Agreement." The underlying reason was precisely the failure to secure adequate project financing, forcing the government to rescind the agreements.

In new projects, to secure project construction profits, the social capital entity often acts as the general contractor, taking full responsibility for project construction. Since the social capital party typically holds a dominant position over project progress, delays during the construction phase frequently trigger the early termination clause stipulated in PPP project contracts. Generally speaking, PPP projects are large-scale and involve lengthy construction periods, making them susceptible to various challenges throughout the process—such as insufficient project funding, poor construction management, delayed material supply, or even defects in construction techniques or technologies. Any one of these factors can easily lead to schedule setbacks. Particularly when delays occur in projects closely tied to people's livelihoods, the pressure on the government side becomes immense. This not only drives up project costs but also jeopardizes the government's public image. Moreover, prolonged project stagnation undermines local governments' credibility and directly impacts the investment return targets set by the social capital partner, ultimately shaking the very foundation of their collaborative partnership. In light of these challenges, early termination emerges as a crucial exit strategy that allows both parties to break free from this difficult situation.

A performance bond is a crucial tool provided by the private sector entity to the government, ensuring that the private partner fulfills its contractual obligations—and it also serves as a key mechanism for the government to hold the private partner accountable in case of breach. For instance, in the aforementioned Yiwei Expressway project, due to insufficient financing, the Yibin Municipal Government terminated the agreement, and the 5 million yuan performance guarantee deposited by Chengdu Luqiao was consequently forfeited according to the contract terms. In PPP project practice, private sector entities typically provide performance bonds tailored to specific phases—such as construction, operation, and handover—covering the entire duration of the project partnership. However, some private partners, driven by considerations like reducing corporate funding costs and minimizing default risks, have become reluctant or even negligent in issuing these performance bonds. Particularly when the government itself has engaged in contractual breaches, these entities often refuse to provide their own performance bonds as a strategic move to counterbalance the government’s actions. Yet, such passive behavior in offering performance bonds clearly signals potential default risks on the part of the private partner. As a result, in PPP project implementation and management, governments often grant private partners a reasonable grace period; if the performance bond remains unprovided after this deadline, the government reserves the right to terminate the PPP project contract altogether.

Performance evaluation serves as the government’s primary tool for overseeing and controlling the quality of construction and operation by the social capital partner. It is divided into three distinct phases: performance evaluation during the construction phase, performance evaluation during the operational phase, and performance evaluation at the handover stage. During the construction phase, the evaluation focuses on a comprehensive assessment of project progress, quality, safety, and financial management—essentially representing the second "battle" between the government and the social capital partner, the first having taken place at the negotiating table during the procurement phase. Typically, if the construction-phase performance evaluation fails to meet standards, there is one opportunity for corrective action. However, if the project still fails to pass the reevaluation, the government reserves the right to terminate the PPP project contract. The status of the construction phase directly impacts the project’s subsequent operational performance. A failing construction-phase evaluation indicates that the social capital partner has not genuinely prioritized the long-term operation of the project, fundamentally deviating from the original purpose and intent of the PPP model. Therefore, the government has ample justification under this policy framework to prematurely end the project. In the operational phase, an unsatisfactory performance evaluation not only affects the government’s payment obligations but also triggers the right to terminate the contract if, after necessary remediation efforts, the project remains non-compliant. An unqualified operational-phase evaluation suggests that the project company is unable to uphold even the most basic operational and maintenance standards. For instance, in the case of a wastewater treatment plant, an unsatisfactory performance result would mean the treated effluent fails to meet regulatory water-quality standards. If, despite corrective measures, the plant continues to fall short, the necessity for the original social capital partner to maintain and operate the facility significantly diminishes—especially in projects directly tied to public welfare. In such critical scenarios, the government’s decision to prematurely terminate the PPP project aligns closely with the broader public interest. Finally, the handover-phase performance evaluation, while integral to the overall process of ending a PPP project, is largely independent of early termination decisions and thus will not be discussed further here.

Cases of PPP projects being terminated ahead of schedule due to force majeure are relatively common in practice, primarily including changes in policies and regulations, pandemics, and wars.

Policy and regulatory changes refer to alterations in government policies and regulations that are beyond the control of the government—particularly at the county-level—and, due to their limited authority in drafting such policies, they cannot influence or prevent these changes. Like social capital partners, they are essentially passive implementers of these regulations. Once significant policy or regulatory changes occur, if they disrupt project implementation, both parties may be forced to terminate the project ahead of schedule. For instance, in Yangpu Medical’s announcement regarding the termination of its PPP cooperation on the overall relocation project of Yizhang County Traditional Chinese Medicine Hospital, coupled with the equity transfer of its subsidiary, the decision was driven by legal requirements that explicitly prohibit the distribution—or any form of disguised distribution—of revenues from public hospitals, as well as shifts in national centralized procurement policies for medical devices and pharmaceuticals. These regulatory changes ultimately led to a loss of expected returns for the PPP social capital partner, making it impossible to fulfill the terms of the PPP agreement. Similarly, Tianjin’s Hebei District Integrated Sanitation PPP Project (Project No.: DYZX20221219) announcement succinctly stated that the project was terminated precisely because of unforeseen policy changes.

Policy and regulatory changes, when linked to two key factors, further heighten the likelihood of projects being terminated prematurely: first, the project implementation timeline; and second, the ripple effects of policy alignment. Regarding the project implementation timeline, most PPP projects are large-scale with extended collaboration periods, making them susceptible to various obstacles during execution—such as delays in land acquisition and demolition, adjustments to construction plans, or insufficient equity contributions. Moreover, in recent years, PPP policies have become increasingly stringent, causing many PPP projects to lag behind as the overall momentum of these policies wanes. Particularly after the emergence of new PPP mechanisms, numerous projects have stalled, stuck in regulatory gray areas and coming to a standstill. As for the policy linkage effect, take bank loan policies as an example—they closely mirror the evolution of national PPP regulations, moving in tandem with each other. As PPP policies gradually tighten, bank lending criteria have also tightened accordingly, ultimately leaving many PPP projects stranded at the critical stage of securing bank financing.

At the end of 2019, the COVID-19 pandemic had a significant impact on various sectors, including PPP projects. Many construction sites came to a standstill due to stringent prevention and control measures, leading to sharp increases in costs related to materials, labor, equipment, and management. Meanwhile, extended project timelines resulted in continuously mounting bank interest expenses. As a result, numerous ongoing PPP projects struggled to stay afloat amid the pandemic and were ultimately forced to terminate prematurely. For some PPP projects already in the operational phase—particularly those where user fees constitute a substantial portion of project revenues—the pandemic-induced sharp decline in user income has put their day-to-day operations under severe strain. Moreover, during the early planning stages of PPP projects, policymakers often set relatively high estimates for user fees to meet regulatory requirements. However, when private-sector investors enter the procurement phase, user fees are frequently used as a key bidding criterion, with bidders typically aiming to offer the lowest possible value. Consequently, these "overestimated" user fees have plummeted dramatically in the wake of the pandemic. Even though governments may seek to adjust the feasibility gap subsidy amounts by invoking force majeure clauses, they too face financial constraints exacerbated by the pandemic. With local finances already stretched thin across most regions, many areas find themselves in a position where, despite their best intentions, they simply lack the resources to provide meaningful support.

Natural disasters such as earthquakes, floods, typhoons, and landslides clearly cause physical damage to PPP projects. For instance, in some coastal areas, typhoons can severely disrupt PPP projects that are either under construction or already operational, often forcing projects to halt altogether. In 2021, Typhoon "Yanhua" and, in 2023, Typhoon "Doksuri" inflicted significant losses on several ongoing PPP projects in the region. Some of these projects were so badly damaged that they could not resume construction or operations in the short term, ultimately leading to their premature termination. Meanwhile, in southern regions, many water infrastructure-related PPP projects frequently face threats from flood disasters, which can wreak havoc on numerous water-focused PPP initiatives. As a result, several affected projects in flood-prone areas have been forced to wind down ahead of schedule.