Executive Summary: The Federal Government´s constitutional amendment proposal, if approved, will allow the private sector to become involved in the generation of electricity, except that by means of nuclear technology. Electrical transmission and distribution will yet be handled by the Federal Commission of Electricity (CFE), whom will however be able to conclude certain types of contracts with private individuals or entities relating to these matters.
If approved, this constitutional amendment bill and its subsequent legislation will cause a profound restructuring of Mexico’s electricity sector. The constitutional amendment would provide the necessary impetus for the further modernization of Mexico’s power plants, through the use of more efficient and ecological technologies, enhanced transmission infrastructure, thus providing companies of the field with an array of new opportunities.
On August 12th, 2013, the Federal Government presented to Mexico’s Congress, an amendment bill initiative to reform different constitutional articles that concern energy regulation in Mexico (the “Initiative”). If this amendment and its subsequent legislation were to be approved, Mexico’s electricity sector would experience a profound restructuring. It is to be expected that the Initiative will pass - or at least it’s essential elements – throughout the course of the year. The following information will explain the legal framework that currently regulates Mexico’s electricity sector, the amendment bill proposal’s content, and also its possible impact on private companies and their new venture opportunities should the bill be approved.
The amendment proposal concern the electricity sector
Currently, the generation, transmission and distribution of electricity to the public is a service which can only be provided by the State, specifically by the parastatal enterprise known as the Federal Electricity Commission (CFE). Involvement of the private sector in the electricity field is allowed exclusively under certain legal modalities and generation schemes which legally do not fall under the category of “public service”.
The most important of these generation schemes are those of “Independent Energy Producers” (“PIEs”) and “Self-Supply” partnerships. PIEs involve implicate that output is exclusively sold to CFE and these transactions arise from purchase contracts awarded through a public tender. Since CFE is legally obliged to purchase power provided at the lowest available costs1, the awarding of PIE projects based on renewable technologies (in this case, wind technologies) has been rare.
On the other hand, Self-Supply partnerships allows for independent producers to generate electricity to supply their own power necessities and also those of its partners. Under this modality, a Self-Supply partnership is convened between an investing/developer partner and at least two consumer partners which trade shares in the profits that result from the sales to CFE of the surplus output. The law does not require that the consumer partners be provided with an amount of electricity that is proportional to their shares in the partnership; rather, the power provided to each consumer partner is a result of a power purchase agreement with terms that are agreed to individually between the generator and consumer partner. Recently, photovoltaic developers have been also exploring the” Small- Scale Producer” (“SMS”) modality. Under SMS, only projects with a maximum capacity of 30 MW qualify and sales are exclusively made to CFE and the corresponding consideration to the SMS is based upon the Total Short Term Costs (TSTC, CFE´s production costs) quotient.
The private sector´s involvement in the national generation of electricity is significant 2 and the private generation modality of Self-Supply has caused
renewable energies to become increasingly prominent source for electrical output3. The expansion of renewable energy sources in the Mexico’s energy matrix has, nevertheless, been limited due to a deficient transmission infrastructure. Also, regulatory restrictions that apply to generators under the Self-Supply modality have made the financing of projects more complicated and expensive.
CFE’s supply fees are high, especially industry fees, when compared to the fees offered in other countries and this is a factor which affects national competitiveness4. Moreover, the State subsidizes power supply fees for the residential and agricultural sector5.
Mexico´s Electricity Sector Today
The Initiative proposes that a profound restructuring of the electric market be effected in order to enhance the possibilities for more private investment in the electricity generation sector. Nevertheless, electricity transmission and distribution will remain as services that are exclusively provided by the State (specifically, by CFE). Nonetheless, the possibility of contracts with private individuals and entities concerning particular aspects of transmission and distribution services have been referenced to in the bill proposal.
Generation of Electricity by private producers
The Initiative does not provide for CFE’s privatization but rather seeks to make Mexico’s electricity field more accessible to other sectors. The main goal is for private enterprises to generate electricity and sell it freely in the market by the lifting of any previous constitutional restrictions that made “public service” supply and sales exclusively reserved to the State. The previous legal modalities included in the Electric Power and Public Service Act that regulated electricity generation by non-state entities will then become obsolete, thus allowing private sector participation in the public service generation.
The producers of electricity will be able to place their product freely in the market without their consumer base being limited to just CFE –as is the case with PIEs – or consumer partners of Self-Supply partnerships. This will facilitate financing and lower costs of future projects.
Different Federal Government officials have explained that private producers will not be able to sell electricity power to certain consumers whom will still have to purchase power from CFE. Residential end-users are among this group.
Public Service Transmission and Distribution of Electric Power
CFE will still remain in charge of the transmission and distribution of electricity for public service purposes. Nevertheless, and even though the Initiative is against the awarding of concessions in the transmission and distributional services field, the possibility of “concluding contracts with private individuals, accordingly to the applicable laws” will exist in the field. However, it will be necessary to see how these “contracts” will be regulated. The nature of these contracts is not detailed in the statement of reasons for the Initiative, so in order to make a more in depth analysis of their scope, a proposal regulatory scheme will be needed. To this matter though, Federal Government officials have provided the insight that the private sector will indeed be able to participate in the construction and operation of the electricity transmission and distribution grid by means of these contracts and associations with the CFE.
Different documents regarding the Initiative mention that an “independent arbitrator” entity will be created and that its purpose will be to guarantee market access to all producers (CFE and private producers) under the same rules.
Moreover, these official documents seem to indicate that this independent arbitrator will also decide the power by CFE that is to be purchased from each producer on the basis of the “lowest bulk cost of power”.
The impact of the amendment to Mexico’s electricity sector
This Initiative provides a constitutional basis for the restructuring of Mexico´s electricity sector by means of secondary legislation. The impact that it will have on enterprises of the electricity sector will thus depend on secondary legislation but specifics in this regard are still unannounced. As of the moment, the Initiative simply lays out the objectives that are sought by the amendment bill but is vague as to the means with which these goals are going to be accomplished. With this amendment, the Federal Government seeks to lower electricity supply fees and the substitution of power plants which use highly polluting and less efficient technologies be substituted by more efficient zero-polluting power plants (or less polluting ones). The Initiative also mentions the encouragement of electricity production based on natural gas and clean energies.
Current PIEs which can sell their generated electricity exclusively to CFE will be able to expand their facilities as well and also sell their generated power to different consumers. Self-Supply partnerships will also be able to sell their produced electricity to other consumers without them having to become consumer partners in the partnership. This increased flexibility regarding the consumer basis of private producers will have a positive effect on the financing conditions for future projects. Simultaneously, the Initiative states as well that the amendment will allow enhanced development of electrical transmission and distribution infrastructure and will also assure its access and usage, under the same conditions and in a complete and non-discriminatory fashion, to all the producers of electricity. Every indication points to it being that the amendment will greatly benefit producers which implement clean technologies that lower production costs or are less polluting.
From a legal standpoint and based on the available information, private projects for the operation and development of the electrical grid seem feasible in the future, under the proposed regulatory framework, with the exception of projects that seek residential users as consumers. The latter will not qualify as users to which private companies will be able to sell their product. It will be necessary to
see if the secondary legislation will exclude all users who currently purchase power at residential fees.
On a practical level, the amendment’s potential positive impacts on the renewable energies sector are still vague. The previous bases which allowed the development of renewable sources projects will change whilst the new rules of the game still remain unknown. Aeolic technologies had found their market in Self-Supply partnerships and in the execution of Power Purchase Agreements (“PPAs”) with industrial clients. On the other hand, solar technologies are still in start-up phases at a national level. Companies which specialize in this type technology are seeking to operate under the modalities of Self-Supply or that of a Small-Scale Producer. The consumers of Self-Supply partnerships must sell power to CFE at high rates. In the Small-Scale Producer modality, the consideration is calculated upon a TCPC basis (Total Short Term Costs – Production Costs).
Renewable energy projects depend on the possibility to sign long-term PPA contracts with consideration that is financially viable. Currently, renewable energy projects can compete in the market due to the Self-Supply corporations’ high supply fees to CFE or because of the high production costs that are usually incurred by Small-Scale Producers. The most important element of the project – the consideration – will be affected by the Initiative. It is expected that the private producers’ supply fees will lower in comparison to the actual fees of CFE but the concrete impact that the amendment will have on CFE´s production costs (TCPC) remains unknown. Concurrently, this constitutional reform would allow access to the market to conventional technologies with lower production costs than technologies based upon renewable energies.
The documents of the Initiative do not clarify how private sector involvement in electricity generation based upon renewable energies will be guaranteed in the newly shaped market since their production costs are still higher than those which utilize conventional technologies. Nonetheless, the Initiative confirms that the goal established by the General Act for Climatic Change, which entails that by 2024 at least 35% of the country´s total electrical output be obtained from clean energy sources (renewable and nuclear energies) will be accomplished. One of the objectives of the amendment according to the Initiative will be that of correcting the present limitations of today’s legal framework in order to increase the large-scale generation capacity of renewable energies through the creation of a competitive market. For this goal to be achieved, it will be necessary that electricity production through use of renewable technologies be incentivized in some way. It is crucial that the government issue, as soon as possible, the new conditions regarding generation and how the government plans on attracting private capital in the renewable energies sector so that the energetic matrix sought for Mexico can be in fact reached. Otherwise, the risk of a standstill in the investment in renewable energy projects – particularly photovoltaic projects – will be imminent.
Electric generation with nuclear technology will maintain its status as an activity exclusively reserved to the State (CFE). The Federal Government refers to the National Energy Strategy for 2013-2027 which alludes to nuclear energy as a viable option to reach the 35% non-fossil fuel generation goal by 2025. In this case, the construction of a nuclear power plant would be auctioned by CFE as an electrical generation project of this enterprise.