Rejection of the constitutional counter-reform
SCJN decision regarding LIE reform
New requirements for permits
The electricity market in Mexico has been through quite some turbulence during the last three years, but the first half of 2022 has been particularly tumultuous as three important events have taken place:
- the Chamber of Deputies rejected a constitutional counter-reform which, if passed, would have radically changed the sector;
- the Supreme Court dismissed important challenges against a controversial reform to the Law of the Electricity Industry (the LIE reform); and
- government authorities have continued to hinder private participation in the market by denying permits and issuing new requirements to obtain generation permits in Mexico.
This article explains the main implications of these events, how industry players can expect the following years to be and what measures they can take to protect their interests.
Rejection of constitutional counter-reform
On 17 April 2022, the Chamber of Deputies rejected a constitutional reform in Mexico which would have had a major impact on the energy sector in Mexico. The reform initiative was presented by the presidency of the country and backed by its political party, which has majority in Congress.
The main points of the reform were:
- making power generation an exclusive strategic activity of the state;
- reunifying the Federal Commission of Electricity (CFE) (the Mexican state-owned electricity utility) after it was separated to promote competition;
- eliminating the independent operator of the market (National Centre for the Control of Energy (CENACE)) and handing its powers to CFE;
- eliminating the independent market regulator (National Regulatory Commission (CRE)) and the National Hydrocarbons Commission, and handing its powers to the Ministry of Energy;
- putting CFE in charge of deciding the dispatch of power plants;
- cancelling all generation permits and power purchase agreements with private entities;
- guaranteeing that at least 54% of all power generation belongs to CFE; and
- putting CFE in charge of determining fees applicable to transmission, distribution and users.
Being a constitutional reform, it required the vote of at least two-thirds of all deputies attending the voting to be passed. Although the president's party has a majority in the Chamber of Deputies, it does not reach the two-thirds required. Opposition fractions united to vote against the reform and, even though the voting was postponed and there was a lot of political pressure on the deputies, they managed to reject the reform.
This rejection was viewed positively by specialists of the sector since the contrary would have meant a dismantling of the current market and a return to CFE's previous monopoly. Probable consequences that were predicted if passed included:
- a rise energy of prices;
- inability to meet clean generation goals by Mexico;
- a substantial increase in uncertainty in the rule of law of the country; and
- potential claims under investment protection treaties.
This also indicates a high probability of a more measured Congress in the years to come, as well as an opportunity to maintain the current electricity market structure (and maybe even improve it, considering there was a more market-positive initiative suggested by the opposition). However, although the presidency has stated that it will not present a new constitutional reform on the electricity market, it is expected that the general reluctance towards private participation in the market will remain.
SCJN decision regarding LIE reform
Prior to the submission of the constitutional reform initiative, the current federal government had attempted to strengthen CFE over private entities in the electricity market through other legal mechanisms, including issuing secondary regulation to stop new intermittent power-generation (solar and wind) projects from starting commercial operation, as well as issuing a policy which intended to modify market rules imposing competition barriers on private and renewable energy power pants and modifying the rules to dispatch power plants, giving preference to CFE over other plants.
However, the Supreme Court (SCJN) invalidated these regulations when they were challenged by interested parties, as it deemed that they contradicted constitutional principles. Since the reform to the Electricity Industry Law contains very similar provisions, it was expected that a comparable ruling would be issued by the SCJN when several constitutional challenges were submitted against it. That was one of the main reasons why the president decided to present a constitutional reform initiative. This was also expected as a great number of judicial challenges were submitted against the reform and federal judges granted suspensions with general effects that, to date, maintain the reform without effects.
However, in a surprising decision, the SCJN did not declare the unconstitutionality (and thus invalidity) of the LIE reform. For the unconstitutionality to be declared, it required the vote of eight of the 11 SCJN judges. When discussing this matter, the judges' votes were divided among the different points of the reform and none of the points received enough votes to be declared unconstitutional, so the challenge was dismissed. However, this does not mean that the SCJN declared that the complete reform was constitutional, nor that its findings are binding to lower courts. For this result, the same number of votes (eight out of 11) would have been required but in favour of the constitutionality. Some of the points of the reform did reach this voting and thus may not be declared unconstitutional by lower courts. The remaining points may still be declared unconstitutional by lower courts or even by the SCJN in a new ruling. The points that were declared constitutional are:
- transitory articles which order to revoke self-supply permits(1) obtained against the purpose of the law which created them, and to review power purchase agreements executed with Independent Power Producers,(2) to guarantee its legality and profitability for the federal government and, if necessary, revoke or terminate them;
- that the CRE should consider the planning criteria of the Secretariat of Energy (SENER) to grant permits;
- that open access to the National Transmission Grid and the General Distribution Networks should not be discriminatory, when technically feasible; and
- the possibility of interested parties grouping to perform works, extensions, or modifications necessary for interconnection or connection.
Of these points, only the first two are a cause for concern as they generate uncertainty for permit holders and entities interested in obtaining a new permit. Points three and four are not troubling as they only repeat provisions that are already included in other regulations.
With regard to the first point, due to the text of the reform, to revoke a permit it would be necessary for the authority to prove a "fraud to the law", which would be difficult considering the requirements to obtain the permits valid at the time were most likely met. Consequently, an improper revocation may be challenged with high probabilities of success. In this regard it is important to note that the federal government has stated that the SCJN decision rendered self-supply permits illegal, which is false. The government has also invited permit-holders to voluntarily migrate from self-supply to the new market rules, but legally this will be left to the permit-holders discretion.
With regard to the second point, it is unclear exactly what SENER's criteria will be, and to what extent it may be used to deny a permit. However, policies previously invalidated by competent courts should not be used to deny a permit. The issuance or application of a new policy or secondary regulation could be subject to judicial review, so interested parties who are denied a permit will have a chance to challenge the decision in court.
The remainder of the points of the reform are the most controversial and preoccupying for industry players, but as they did not obtain the eight-vote constitutional majority they may still be invalidated by lower courts or the SCJN in a new judicial instance:
- a new dispatch order prioritising CFE power plants independently from its cost and technology;
- elimination of the requirement of CFE basic services suppliers(3) to acquire power through auctions; and
- new rules for the issuance of clean energy certificates.
These last points were considered unconstitutional by a simple majority of the SCJN judges but did not reach the eight-vote threshold. Despite the criterion of the simple majority being non-binding, this conclusion should have weight in the reasoning of lower courts. Likewise, challenges against the LIE reform are still ongoing, so part of it can still be declared invalid.
As previously stated, the LIE reform is still currently suspended, and will not come into effect until the last suspension with general effects is lifted. When this happens, a party affected by the reform will be able to challenge it or secondary legislation issued to apply it.
It is also important to note that the challenge against the LIE reform also included arguments about international treaties' violations, but the SCJN did not resolve such arguments as it was not the appropriate forum to do so (the appropriate forum would only be an international panel or arbitration tribunal). In this regard, defence mechanisms under international treaties such as the United States Mexico Canada Agreement can still be activated by investors and even the other state parties.
Separately from the constitutional counter-reform and the LIE reform, the CRE issued new general administrative provisions for the issuance of power generation permits. These provisions impose new burdensome requirements to entities interested in obtaining a generation permit. The most important of these include:
- more detailed financial and technical information about the project;
- an "impact study" requirement – a study that, before the issuance of this requirement, could be performed after requesting the permit, which is burdensome as it requires starting the interconnection procedure before CENACE;
- increased information requirements and restrictions for isolated supply permits; and
- stricter obligations as regards receiving the permit regarding manuals, work progress, subscription of interconnection contract, further permits and authorisations, and evidencing progress and investment effectively made in the project.
The basis for the requirements that CRE can determine for the issuance of a new permit is established in the LIE. While they are general, there may be grounds to consider that these new requirements exceed what is allowed by the LIE. This opens up the opportunity for an interested party to challenge these requirements. To date, there has not been a suspension with general effects regarding these requirements, and it is unlikely that one will be granted. Only parties submitting a challenge would be granted protection against them.
Until the end of the current federal administration term in 2024, there will not be any other constitutional reform initiative regarding the electricity sector. The chance of another legal reform such as the LIE reform is plausible but unlikely. There is also a good chance that part of the LIE reform will be declared invalid with general effects, but it is advisable for interested parties to present their own challenges to obtain individual protection.
The government may continue to try to favour CFE over the rest of the market participants, but this would be through secondary legislation and the direct action of authorities (not major legal reform). Thus, judicial challenges will remain an important tool for interested parties to obtain fair treatment in the performance of their activities in the sector.
Despite all the obstacles that the industry is facing, private entities have found new ways of participating in the electricity industry in Mexico, which include more alliances with CFE, and a rapid growth of off-the-grid alternatives including distributed generation and isolated supply. A good number of participants have also managed to put forward their projects through judicial intervention. Energy consumption needs in Mexico continue to rise, as does the necessity of private participation. CFE does not have the capacity to build the transmission, distribution and generation infrastructure required to match said increase, something that is starting to be recognised by the current administration. The following years will not be easy for the industry. However, these past few years have shown that the industry has great strength and resilience – a good sign for the years to come.
For further information on this topic please contact Guadalupe Esparza Sánchez or Diego Álvarez Ampudia at Ramos, Ripoll & Schuster by telephone (+52 55 1518 0445) or email ([email protected] or [email protected]). The Ramos, Ripoll & Schuster website can be accessed at www.rrs.com.mx.
(1) Self-supply is a concept established prior to the energy reform of 2013, which allows entities to generate electricity to satisfy their own necessities, and those of their partners/shareholders. This has been criticised, as companies with these permits issued or sold shares to third parties to make them their shareholders/partners, allowing them to benefit from the permit.
(2) This is a generator modality established prior to the 2013 energy reform, in which the generator sells electricity exclusively to the Federal Commission of Electricity.
(3) The subsidiary of CFE which sells electricity to basic users (those who cannot buy from other suppliers).