Regulation 31 – Innovation partnership

Commentary

Regulation 31 introduces the innovation partnership as a direct transposition of Article 31 of Directive 2014/24/EU. It configures the partnership as a multi-step process, both during the award phase (Regulation 31(18) PCR2015) and for the implementation of the innovation contract (Regulation 31(10) PCR2015). The purpose of this new “procedure” is thus to allow for the public and private sector to establish partnerships with the aim of developing an innovative solution. The contracting authority sets what it wants to solve and then works with partners to develop the innovative solution(s) in those two different stages.

In terms of process, the innovation partnership procedure is a hybrid of the competitive procedure with negotiation and the competitive dialogue available when the contracting authority identifies the need for an innovative product, service or works that cannot be met by purchasing products, services or works already available on the market (Regulation 31(2)(a) PCR2015). The main difference with those procedures is that the purpose of the innovation partnership must be “the development of an innovative product, service or works and the subsequent purchase of the resulting supplies, services or works, provided that they correspond to the performance levels and maximum costs agreed between the contracting authority and the participants” (Regulation 31(9) PCR2015). Such development can be carried out by one partner, but the contracting authority can also decide to conclude an innovation partnership with several partners conducting separate research and development activities (Regulation 31(4) PCR2015).

How an innovation partnership should look and how it is supposed to be run is yet to be clearly asserted. At the time of writing (September 2016) no innovation partnerships were run in England, Wales or Northern Ireland albeit contracting authorities being have been able to do so since February 2015. For an overview of potential issues with the procedure please see Telles and Butler, “Public Procurement Award Procedures in Directive 2014/24/EU“, in F Lichere, R Caranta and S Treumer (ed) Modernising Public Procurement: the new Directive (Copenhagen, DJØOF Publishing, 2014) 131-184); M Andrecka, “Innovation Partnership in the new public procurement regime – a shift of focus from procedural to contractual issues?” / Andrecka, Marta,(2015) in 2 Public Procurement Law Review, 2, 2015, p. 48-62; P Cerqueira Gomes, “The innovative Innovation Partnerships under the new EU directives” ,(2014) 4 Public Procurement Law Review, 4, 2014, p. 211.

As a thorough detailed analysis of the procedure exceeds the remit of this commentary, we will focus our attention in some specific topics that warrant discussion due to their potential implications in practice.

Grounds for use

The first reservation we have about the use of the innovation partnerships is that contracting authorities may not be in a good situation to assess the “need for an innovative product, service or works that cannot be met by purchasing products, services or works already available on the market” ([Regulation 31(2)(a) PCR2015, emphasis added], either on their own or as a result of preliminary market consultations (carried out under Regulation 40 PCR2015 [CROSSREF], or otherwise). Contracting authorities will in very limited circumstances have identified a need that has not been previously identified by the market at all. Moreover, it will be very rare that such a need cannot be satisfied by an adaptation of existing products or services, in which case the proper procedure would be a competitive procedure with negotiation or a competitive dialogue (Regulation 26(4)(a)(i) PCR2015), even if they require design or innovative solutions (Regulation 26(4)(a)(ii) PCR2015).

Moreover, if contracting authorities set out the project as an innovation partnership, they may fall into a self-selection or a confirmation bias. Given the requirement that “Only those economic operators invited by the contracting authority following its assessment of the requested information may submit research and innovation projects aimed at meeting the needs identified by the contracting authority that cannot be met by existing solution“, the only offers that the contracting authority can expect to receive are those of economic operators that honestly think there is no existing solution to their needs (even if there is one) (self-selection bias), or of economic operators willing to play along and confirm to the contracting authority that it is right in its assessment of “inexistence” of a solution, and then offer an actually existing solution–either faking or duplicating the “innovation” process (confirmation bias). 

This would, in the end, facilitate the creation of situations in which the contracting authority sets out an innovation partnership procedure on an improper assessment of the market and any economic operator that is aware of an actually existing solution for the needs of the contracting authority only has two options. Either it judicially challenges the procedure (or does it informally directly with the contracting authority, but one can imagine how badly that conversation would go most of the times), so that a tender for a contract under a different procedure can take place; or it plays along and praises the contracting authority for its market savviness.

Intellectual property (IP) risks

Our second reservation has to do with the risks that the contracting authority may assume in relation to third party intellectual property, as Regulation 31(22) PCR2015 simply indicates that the contracting authority shall define the arrangements applicable to intellectual property rights in the procurement documents. This is a neutral formulation that does not prevent the contracting authority to obtain exclusive, shared or no IP rights on the innovation. However, even in the last scenario, the contracting authority may be exposed to the negative consequences of IP litigation, if nothing else, in case the innovation partnership had to be suspended or discontinued due to third party claims. Given the relevance of IP litigation in innovation-intensive markets, it is hard to see why would a contracting authority would be willing to assume risks in this area. More generally, it is hard to see how would entering into an innovation partnership would actually pursue a public interest related to the procurement function of a contracting authority.

Termination risks

In the second stage, ie during the implementation of the innovation contract, it is a distinctive feature that the contracting authority can reserve for itself the right to terminate the innovation partnership at the end of each of the successive phases of the research and innovation process, which it should do on the basis of specific intermediate targets (Regulation 31(12) PCR2015). This is bound to trigger interpretative difficulties concerning the general termination rules under Regulation 73 [CROSSREF], as it seems that innovation partnerships can be terminated without breach of contract on the side of the innovation partner, provided certain intermediate targets are not met, or if the contracting authority is not satisfied with the progress of the project. This will, no doubt, trigger litigation, particularly depending on the stage at which the partnership is terminated, or the possibility (or not) of the innovation partner to continue innovating on its own. These are contractual issues not covered by the PCR2015 or Directive 2014/24/EU.

State aid implications

This is a procedure where its legal set-up masks the existence of a significant number of risks that contracting authorities should weigh before embarking on it. Moreover, the procedure can create significant disruption of the innovation-related State aid rules, as recently recast in the 2014 Framework for State aid for research and development and innovation

That Framework considers that there is no State aid prohibited by Art 107 TFEU in two cases: 

(a) “as long as an open tender procedure for the public procurement is carried out in accordance with the applicable directives” [para 32]; or

(b) where any other arrangement carried out by the contracting authority, including pre-commercial procurement, meets a series of conditions, amongst which “the procurement does not give any of the participant providers any preferential treatment in the supply of commercial volumes of the final products or services to a public purchaser in the Member State concerned” [para 33(c)], “without prejudice to procedures that cover both the development and the subsequent purchase of unique or specialised products or services” [fn 29]. Additional requirements concerning the IP rights (mentioned above) are applicable, as one of the following two conditions needs to be fulfilled [para 33(d)]: either (i) all results which do not give rise to IPR are widely disseminated, for example through publication, teaching or contribution to standardisation bodies in a way that allows other undertakings to reproduce them, and any IPR are fully allocated to the public purchaser, or (ii) any service provider to which results giving rise to IPR are allocated is required to grant the public purchaser unlimited access to those results free of charge, and to grant access to third parties, for example by way of non-exclusive licenses, under market conditions.

In our view, it is difficult to assume that an innovation partnership can be immediately fit into either (a) because it is not based on the rules of the open procedure, or (b) because it does create a preferential treatment for the supply of the results of the innovation, which may not necessarily remain unique or specialised products or services when it comes to their commercialization, particularly if the attribution of IP rights is to the contracting authority, or widely available through non-exclusive licenses, under market conditions. 

In that case, given the lack of immediate compatibility with the EU State aid rules under the 2014 R&D&I framework, the award of the innovation partnership can still go ahead, as Member States may rely on an individual assessment of the terms of the contract between the public purchaser and the undertaking, but that is without prejudice to the general obligation to notify R&D&I aid pursuant to Art 108(3) TFEU which would paralise the project until the Commission clears the State aid.

Overall, then, we doubt that contracting authorities are in a good position to identify when an innovation partnership is justified or, even then, that they are in a situation where the pursuit of public interests (linked to the public procurement function) justifies the assumption of potentially significant IP and State aid risks.

Can it be run with a single supplier?

Whereas a competitive dialogue or a restricted procedure can be run with less than 3 or 5 suppliers, at least in those procedures the contracting authority cannot start it with the aim of having a single supplier involved throughout.

On the other hand, Regulation 31(4) clearly states that the innovation partnership may be set up with one or more participants. Although para. 7 refers to the rules of Regulation 65 [CROSSREF] in terms of limiting candidates, the damage on the requirement of multiple participants is already done: Regulation 31(4) is a special rule whereas Regulation 65 is a general one. It is probably no coincidence either that Regulation 65 addresses specifically the cases of restricted procedure, competitive dialogue and competitive procedure with negotiation but not the innovation partnership. As such, we conclude that it appears the innovation partnership can be legally designed to be run with a single candidate from the beginning although we would strongly advise against such course of action due to its implications on competition.

The innovation partnership itself may last for years

Regulation 31 makes no mention of the maximum duration of an underlying partnership. While it is true that contracts tendered under other procedures are not subject to time limits, the distinct nature of the innovation partnership and the fact it can be run with a single supplier would have made it advisable for the maximum duration to be set in the Regulations.

Truth be told, Regulation 31(26) includes a limitation on value (already prevalent in the Directive): the value of the contract cannot be disproportionate to the investment required for its development. This is, however, a poor proxy or metric to judge the duration of a contract as the R&D costs can be completely unrelated with the cost of the product/service created.

Case in point: adapting the tooling of a factory for a slightly modified product to be produced for a client implies that the “investment cost” will include not only the adaptation but also the original tooling and eventually the capital costs for the factory. No original tool, no adaptation. No factory, no product.

Another potential exploit of the “investment required for its development” is intellectual property. It is no secret that many companies are internally organised so that their intellectual property sits on a low-tax jurisdiction and is licensed to subsidiaries elsewhere.

Looking at software as an example: a multinational company takes part in a software development innovation partnership, with the contracting authority agreeing to pay £1M/year for the innovative solution. By coincidence the underlying IP is owned by a subsidiary based in Ireland which licenses it to the British subsidiary for the purposes of this contract for £5M. In consequence, the contractor has just easily justified 6-8 years of a contract to cover for the “investment cost”.

Even a tighter definition of R&D costs would not provide full respite, although it would certainly make the financial shenanigans more difficult to pull off. The reason for our skepticism is that the fair development costs can be multiple times bigger than the price a single client will be paying for a product.

Proposed citation: Albert Sanchez-Graells & Pedro Telles, (2016) Commentary to the Public Contracts Regulations 2015, available at: www.pcr2015.uk.

Last modified: September 5, 2016 by Pedro Telles

31.—(1) In innovation partnerships, any economic operator may submit a request to participate in response to a contract notice by providing the information for qualitative selection that is requested by the contracting authority.

(2) In the procurement documents, the contracting authority shall—

(a) identify the need for an innovative product, service or works that cannot be met by purchasing products, services or works already available on the market, and

(b) indicate which elements of this description define the minimum requirements to be met by all tenders.

(3) The information provided under paragraph (2) shall be sufficiently precise to enable economic operators to identify the nature and scope of the required solution and decide whether to request to participate in the procedure.

(4) The contracting authority may decide to set up the innovation partnership with one partner or with several partners conducting separate research and development activities.

(5) The minimum time limit for receipt of requests to participate shall be 30 days from the date on which the contract notice is sent.

(6) Only those economic operators invited by the contracting authority following the assessment of the information provided may participate in the procedure.

(7) Contracting authorities may limit the number of suitable candidates to be invited to participate in the procedure in accordance with regulation 65.

(8) The contracts shall be awarded on the sole basis of the award criterion of the best price-quality ratio in accordance with regulation 67.

(9) The innovation partnership shall aim at the development of an innovative product, service or works and the subsequent purchase of the resulting supplies, services or works, provided that they correspond to the performance levels and maximum costs agreed between the contracting authority and the participants.

(10) The innovation partnership shall be structured in successive phases following the sequence of steps in the research and innovation process, which may include the manufacturing of the products, the provision of the services or the completion of the works.

(11) The innovation partnership shall set intermediate targets to be attained by the partners and provide for payment of the remuneration in appropriate instalments.

(12) Based on those targets, the contracting authority may decide after each phase to—

(a) terminate the innovation partnership, or

(b) in the case of an innovation partnership with several partners, reduce the number of partners by terminating individual contracts,

provided that the contracting authority has indicated in the procurement documents those possibilities and the conditions for their use.

(13) Subject to the following provisions of this regulation, contracting authorities shall negotiate with tenderers the initial and all subsequent tenders submitted by them, except for the final tender, to improve their content.

(14) The minimum requirements and the award criteria shall not be subject to negotiation.

(15) During the negotiations, contracting authorities shall ensure equal treatment of all tenderers and, to that end—

(a) they shall not provide information in a discriminatory manner which may give some tenderers an advantage over others;

(b) they shall inform all tenderers whose tenders have not been eliminated under paragraph (18), in writing, of any changes to the technical specifications or other procurement documents, other than those setting out the minimum requirements; and

(c) following any such changes, contracting authorities shall provide sufficient time for tenderers to modify and re-submit amended tenders, as appropriate.

(16) In accordance with regulation 21, contracting authorities shall not reveal to the other participants confidential information communicated by a candidate or tenderer participating in the negotiations without its agreement.

(17) Such agreement shall not take the form of a general waiver but shall be given with reference to the intended communication of specific information.

(18) Negotiations during innovation partnership procedures may take place in successive stages in order to reduce the number of tenders to be negotiated by applying the award criteria specified in the contract notice, in the invitation to confirm interest or in another procurement document.

(19) In the contract notice, the invitation to confirm interest or in another procurement document, the contracting authority shall indicate whether it will use the option described in paragraph (18).

(20) In selecting candidates, contracting authorities shall in particular apply criteria concerning the candidates’ capacity in the field of research and development and of developing and implementing innovative solutions.

(21) Only those economic operators invited by the contracting authority following its assessment of the requested information may submit research and innovation projects aimed at meeting the needs identified by the contracting authority that cannot be met by existing solutions.

(22) In the procurement documents, the contracting authority shall define the arrangements applicable to intellectual property rights.

(23) In the case of an innovation partnership with several partners, the contracting authority shall not, in accordance with regulation 21, reveal to the other partners solutions proposed or other confidential information communicated by a partner in the framework of the partnership without that partner’s agreement.

(24) Such agreement shall not take the form of a general waiver but shall be given with reference to the intended communication of specific information.

(25) The contracting authority shall ensure that the structure of the partnership and, in particular, the duration and value of the different phases reflect the degree of innovation of the proposed solution and the sequence of the research and innovation activities required for the development of an innovative solution not yet available on the market.

(26) The estimated value of supplies, services or works shall not be disproportionate in relation to the investment required for their development.