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XVII Юридический форум России
19 марта 2021 г. в Москве состоится XVII Юридический форум России. Организатор – «Ведомости. Конференции».
Полный текст

Procurement of medical equipment. The price of a lot

Procurement of medical equipment. The price of a lot

Denis Balakin, Senior Associate, Pepeliaev Group

When discussing the shortcomings of the current state procurement system, one of the thorniest topics is forming prices, or more precisely, prices that are unjustifiably high when goods are sold to the state (the cases regarding the purchase of scanners resonate deeply and are hard to forget). Various solutions are proposed that aim to optimise expenditure from the state budget, including those linked to the procedure for establishing an initial price. However, the experience of making legislation shows that these are not always effective.
This article aims to provide a legal assessment of the existing regime for establishing the initial (maximum) price of a contract (lot) (the “initial price”) for the supply of medical equipment. By using the example of current regulations, it will be shown what boundaries exist in regulating the establishment of prices, which legal mechanisms have an effect and which are not used sufficiently.

Calculation methodology and its effectiveness

The rules for determining the initial price are based on the provisions of article 19.1 of Federal Law No. 94-FZ dated 21 July 2005 On placing orders for the supply of goods, performance of work or provision of services for state and municipal needs (the “Law on placing orders” or the “Law”). This article of the law establishes the sources of information for calculating the initial price and the obligation for a customer to justify its price in documents regarding the auction, in tender documentation or in a notice of request for bids.
The Law on placing orders provides for an open list of sources of information for calculating the initial price, among which are data from state statistical reporting, an official website, register of contracts, information about manufacturers’ prices, publicly available results of market studies carried out upon the initiative of a customer that is an authorised body, and other sources of information. A customer may obtain information about prices from any source at its discretion, and may also make its own calculations for the initial price. The customer may use any methods to discover information about a calculation of the initial price in tender documentation .
It is important to bear in mind that the Law on placing orders does not establish a methodology for and does not regulate the procedure of establishing the price. Based on the information it receives, a customer may, in its discretion, calculate the initial price itself.
As an exception to the above rules, article 19.1(4) of the Law provides for the Russian Government to have the right to establish the regime for setting a price in relation to the procurement of specific goods, including establishing a closed list of information regarding prices. The Government has approved a specific regime for calculating the initial price for the procurement of medical equipment , which fully reflects the state’s approach to the problem of determining the initial price.
Below is a brief summary of the mechanism developed by the Government.
Resolution No. 881 allows customers to use only two sources of information:
•    proposals regarding prices for medical equipment received from manufacturers of medical equipment and/or the authorised representatives of such medical equipment;
•    the register of state contracts placed on the official website (www.zakupki.gov.ru).
The customer must, in the first place, use information from manufacturers, but if there is none (or if only one proposal is submitted) it must use information from the register of contracts. The customer makes its own calculation of the initial price only if there is no information from these sources.
The methodology for a calculation consists of determining the average price in excess of which a customer may not set an initial price. For this, a customer sends requests with a detailed description of the equipment it proposes to buy to at least five manufacturers of the relevant equipment. The customer selects such manufacturers in its discretion, including by using databases of products designated for a medical purpose. On the basis of the responses it receives, the customer calculates the average price.
When using data from the register of state contracts, the customer finds at least five contracts for the supply of the same equipment which have been performed in the current or previous year, and determines the average price on the basis of the prices of the contracts that have been performed.
Fairly strict rules have been established for calculating an initial price, and they aim to ensure that medical equipment is not purchased at inflated prices. But how effective is such a mechanism?
To answer this question, we need to look at how the Russian legislator determines prices and what consequences are linked to a price being determined (i.e. what legal functions does the price have?).
From a standpoint of civil legislation (article 424(1) of the Russian Civil Code), there are two types of prices:
•    free (market), which are determined independently by the parties; generally, it is not permissible for a party to be compelled to enter into a contract at a defined price, and
•    regulated, which are established solely in cases and according to the procedure stipulated by legislation (for example, the tariffs of natural monopolies); generally, the parties to a transaction may not change these prices based on their agreement.
There is freedom as to prices in competitive bidding processes when orders are placed for state needs. Performance of a state contract is paid for at a price fixed by agreement of the parties. The only thing is that, in bidding processes, the agreement is formulated according to a particular procedure: a customer makes an announcement regarding the purchase of specified goods, the participants in the procedure for placing an order make proposals (applications), and the customer must enter into a contract with the participant that makes the best proposal.
The principle for setting a price in competitive bidding processes by agreement of the parties has a major significance for determining the initial price: a customer should determine the initial price so as to ensure that it is possible to enter into a contract. This principle establishes the content of the rules of the Law on placing orders that relate to the price of a lot, restricting the legislator from arbitrarily establishing rules. The relevant rules of the law do now prescribe what price should be established for a lot, but describe different legal implications for setting it at different amounts:
•    the price of a lot is a criterion for specific procedures to be applied for placing an order or  requesting bids , or placing with a single supplier ;
•    the price of a lot is a criterion for special regulations to be applied, for example rules established by Resolution No. 881 for determining a price that are binding when more than RUB 500,000 of medical equipment is purchased;
•    the amount of the security that a bid offers, the security for performance of a contract and supplier’s guarantees are calculated from the price of a lot ; when the price of a lot reaches a certain threshold, the requirement for there to be security of the performance of a contract becomes mandatory ;
•    the pace of an auction is set in percentages of the lot price ;
•    the lot price affects the deadlines for carrying out procedures for placing an order ;
•    the lot price allows additional requirements to be set for participants, for example in the area of construction, when there is a contract (lot) price of more than RUB 50 million additional requirements may be set as to experience; the experience itself is also set through the lot price – the amount under previous contracts must be no less than 20% of the initial price in the competitive bidding process ;
•    a maximum initial price is established by the Russian Government when orders are placed with small businesses ;
•    the rules for amending a contract depend on the contract price .
It is particularly worth noting instances in which preferences have been given for products of Russian origin , institutions and businesses from the criminal enforcement system, and associations of the disabled . In these situations, a regulatory prescription directly affects the determination of the contract price with the winner of the bidding process, but this is achieved indirectly – the customer determines the initial price independently, a tender participant establishes its own price proposal and regulations stipulate that coefficients to increase or decrease these be applied, giving the tender participants in question advantages when applications are assessed and contracts entered into.
The provisions of article 19.1 of the Law on placing orders itself, following the same logic, ensure that a price will be formed to which potential participants in the bidding process may agree. Therefore a customer is given a significant free rein –freedom both in terms of choosing the sources of information about the price and of the methodology for the calculation. The customer may set the initial price so as to take account at the same time of its own requirements and to ensure that the terms regarding price are advantageous for potential participants in the bidding process, flexibly taking account of the market situation.
Resolution No. 881, on the other hand, does not follow the logic of ‘soft price regulation’. It establishes mandatory rules for calculating the price, and these rules may not always reflect the specific features of particular purchases or the situation on a given market.

Ways to counteract abuse

Of course, an unfettered discretion for the customer does not rule out the possibility of abuses in the form of prices being raised. Resolution No. 881, it seems, does rule out the possibility of such increases.  But this is not entirely so: a bad faith customer will find opportunities to commit abuses while formally complying with the requirements of this piece of legislation.

The reason for this lies in the conventionalism of the provisions of Resolution No. 881. They establish not a methodology for analysing prices on the market, but rather a methodology for selecting information. If there is the desire, manufacturers (or their distributors) may be selected to obtain suggestions only regarding the most expensive types of medical equipment on the market and if there is collusion with suppliers, all proposals regarding price may be significantly inflated. The average price will then be substantially higher than the average market price. The customer may incorrectly seek information in the register of contracts and find examples of contracts with significantly inflated prices. When procuring complex equipment, this is entirely possible, since the customer may mould the requirements for its purchase to the terms of contracts with inflated prices.

This is where the drawbacks of conventionalism lie: both a good faith and a bad faith customer may fairly arbitrarily select five examples of purchases at a high price and use them to support an inflated average price.
Resolution No. 881 does achieve its objective in one respect – it is difficult for the customer to determine an initial price based on the maximum price proposal on the market, and when the average price is eliminated, it is practically unavoidable for there to be a certain reduction of the initial price.

But is a price reduction always to the customer’s benefit?

If a price is incorrectly determined (is reduced), this makes it harder to reach an agreement with potential participants in bidding processes, and those participants will lose interest in supplying goods to the customer. Increasing the initial price does not restrict the ability to enter into a contract (it is likely to do the opposite, as it encourages participants), but it is often linked to parties acting in bad faith and leads to unjustified spending of funds from the state budget.

Legislation provides for various methods in the struggle against bad faith behaviour. There may be attempts to restrict the maximum prices when goods are procured for state needs, but then there is a risk of disadvantageous terms being proposed to market participants. This will result in a large number of participants not being involved in bidding processes, meaning that competitiveness between them is reduced and, as a result, so is the level of competition.

The other method is to ensure that the procedures in competitive bidding processes are transparent and that the maximum number of participants may take part in such processes. This will inevitably result in competition between them and a reduction of the initial price to the maximum degree the market will support. It seems that this method is significantly more effective than this first, since in ensures that there is actual competition and it does not distort the “market signals”.  Only this way is it possible to meet at the same time the aims of legislation on placing a state order that are declared in article 1(1) of the Law on placing state orders:
•    effectively using the funds of state budgets and non-budgetary sources of financing, and
•    extending the possibility for individuals and legal entities to take part in placing orders and encouraging such participation, and developing good faith competition.
Resolution No. 881 implements the first method of counteracting this – the initial price is compulsorily restricted. The negative effect of such a solution is intensified by the following factors.

Firstly, in accordance with Resolution No. 881, manufacturers (distributors) make proposals regarding the price of medical equipment at which they are willing to supply the equipment, and not proposals to establish the initial price. The replies that are received are not offers and the persons in question are not obliged to participate in tenders and supply the medical equipment. The customer determines the initial price of competitive bidding processes as an average and all potential suppliers who have made proposals that are higher will, in all probability, reject the opportunity to take part in the bidding. However, those companies that have made proposals within the range of the initial price may also not involve themselves in specific bidding processes. A customer striving to achieve a better price will end up with a failed bidding process and will have to raise the initial price to attract new participants to that bidding process. In this situation, Resolution No. 881 allows an initial price to be raised by only 10% without having to be recalculated from scratch.
Secondly, Resolution No. 881 encourages potential suppliers to act in bad faith: prices may initially be inflated so as to establish the most advantageous initial price, or may be artificially reduced to eliminate competition from other manufacturers of medical equipment in bidding processes.

Thirdly, and most importantly, the regime for calculating the initial price in Resolution No. 881 completely ignores the vital point that a price corresponds to quality. For auctions and requests for bids, this is not relevant since applications proposing standardised goods will be compared solely in relation to price. However, in relation to a whole range of types of medical equipment, including extremely expensive equipment, a customer may hold a competitive bidding process at which not only the price is compared, but also quality characteristics. A higher price of a proposal may be explained by higher consumer properties of the goods, which in turn ensure that it is a more effective investment for funds from the state budget (for example, such equipment is more productive or has a longer useful life).

The mechanism for determining the initial price of a lot for medical equipment does not allow comparing its quality characteristics; the average price that is derived will undoubtedly result in manufacturers of higher quality and expensive products not being interested in participating in a tender. Removing the obligation to apply the rules of Resolution No. 881 for purchasing medical equipment via a tender could solve this problem.

The mechanism for public procurement requires improvement

In conclusion, we may note the following:
•    Resolution No. 881 is an example of pricing regulation that contravenes the overall logic of civil legislation and the Law on procurement in relation to the issues in question. By establishing detailed rules for calculation and restricting the discretion of the customer, this regulatory act makes it more complicated to place an order and hinders customers when they establish the terms of procurement that meet the requirements as fully as possible. The benefit from reducing initial prices, as Resolution No. 881 aims to do, may be offset by bad faith customers and participants in competitive bidding processes. All this makes the solutions implemented in Resolution No. 881 considerably less effective;
•    the effectiveness of a price for placing a state order should be based on an improvement of competitive procedures, and not on establishing price barriers;
•    the example of other countries, notably the European Union , shows that the modern priority in improving the state procurement mechanism is a move from establishing a minimum initial price towards optimising expenses throughout the entire life cycle of the procurement. Such a move is possible if, during the procurement, the relationship between the price and quality of various proposals is analysed, and if the initial price of a lot is attractive for the best suppliers of innovating equipment of the highest quality. The price criterion in Resolution No. 881 does not allow the effectiveness of a procurement to be analysed from this standpoint. We need more effective methods for the methodology of analysing the effectiveness of procurement as a whole.


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