Procurement in a nutshell: Court considers whether a wholly owned subsidiary will be considered to be a Contracting Authority

The case has helped to clarify when undertakings which are established and solely owned by a contracting authority parent company, will be deemed to be themselves a contracting authority- meeting the needs of the general interest when involved in providing works, services or supplies to its parent and therefore obligated to comply with the EU procurement rules.

The case

In 2003, the Lithuania state railway company underwent restructuring and it established VLRD, a subsidiary which had the responsibility of manufacturing and maintaining locomotives and railway carriages for the company.

In 2013, VLRD published a notice of an open tendering procedure for the procurement of bars of ferrous metals; because of its in house relationship with the state company this was done in accordance with its own Interim Procurement Regulations. LitSpecMet, submitted a tender and was awarded a contract for some but not all of the parts procured, subsequently, they sought to have the procurement procedure declared invalid and a have new procedure started under Lithuanian Law. It argued that VLRD had been established with the specific aim of meeting its parent company’s needs, which served a public service remit and also that the manner in which VLRD provided goods and services to its parent company did not reflect normal competitive conditions. These factors effectively made VLRD a Contracting Authority as their activity was intended to meet needs in the general interest, and therefore the procedure should be subject to the EU rules on public procurement.

The Lithuanian court referred the question to the European Court and asked the court to determine whether VLRD should be considered a Contracting Authority.

The directive

Article 1(9) of Directive 2004/18/EC sets out three cumulative conditions which must be satisfied for an entity to be considered a ‘body governed by public law’ and therefore be a Contracting Authority. These state that it must:

(a) Be established for the specific purpose of meeting needs in the general interest, not having an industrial or commercial character;
(b) Have legal personality;
(c)  i) Be financed for the most part, by the State, regional or local authorities or by other bodies governed by public law, or
ii) Be subject to management supervision by those authorities or bodies; or
iii) Have an administrative, managerial or supervisory board, more than half of whose members are appointed by the State, regional or local  authorities or by other bodies governed by public law.

Conditions (b) and (c)  were not disputed and the decision for the courts rested on whether the entity constituted a ‘body established for the specific purpose of meeting needs in the general interest, not having industrial or commercial character’. In determining this, the court looked at the two elements separately:

1. Specific purpose of meeting needs in the public interest
The CJEU considered the functional purpose of the entity and held that the primary purpose of VLRD and the reason the subsidiary itself was established was to supply manufactured railway parts and maintain locomotives and railway carriages for its parent company. The role VLRD carries out was found to be fundamental in enabling its parent company to carry out its activity intended to meet its needs, which directly served the general interest.

2. Needs not having an industrial or commercial character
In this assessment, the CJEU held that account must be taken of all the relevant legal and factual circumstances from when the entity was formed and those which prevail whilst it operates. These circumstances include factors such as: lack of competition in the market, the fact the primary aim is not the making of profits, the fact that it does not bear the risks associated with the activity and any public financing of the activity in question. Furthermore, if an entity operates in normal market conditions, makes profits and bears the losses, it is unlikely that the needs are not of an industrial or commercial nature.

The court held this is for the referring court to determine, on the basis of all the circumstances of the case, whether at the time of the award of contract at issue, the activities carried out by VLRD, seeking to meet needs in the general interest, were exercised in competitive conditions and whether VLRD was guided by non-economic considerations.

The CJEU’s findings

The CJEU held that in establishing whether an entity is ‘governed by public law’, a company which is wholly owned by a Contracting Authority, whose activities consist of meeting needs in the general interest, such as VLRD, must be regarded as a ‘body governed by public law’, and therefore subject to the ordinary rules of public procurement. However, this is only the case provided that the activities of the entity in question are necessary for the Contracting Authority to meet needs in the general interest and that entity is able to be guided by non-economic considerations.

Why is this important?

This case has helped to make clear the limits of the in-house exemption, and clarifies when a subsidiary, wholly owned by a Contracting Authority will themselves be held to be a Contracting Authority and therefore obligated to follow the ordinary EU rules on public procurement. This is particularly relevant for those subsidiaries whose sole function is to provide for their parent company and also of interest to contracting authorities establishing group delivery structures for public service projects.

Although the case was decided on Article 1(9) of Directive 2004/18/EC, the terms of this Article are almost identical to the provisions in Article 2(1)(4) of Directive 2014/24/EU, both provisions establish the three cumulative conditions necessary for the consideration of an entity as a ‘body governed by public law’. Therefore this judgment is of broad and future relevance. If a similar case arises under the new Directive, it is more than likely the CJEU will make the same decision.

How can I find out more?

If you have any queries on the issues raised or on any aspect of procurement, please contact us via our procurement hotline on 0191 204 4464.