Brazilian Electricity Sector

REGULATORY ENVIRONMENT

The Brazilian Constitution foresees that the exploration of electricity services and facilities may be realized directly by the Federal Government or indirectly through granting concessions, permissions or authorizations. Historically, the Brazilian electricity sector was mainly explored by generation, transmission and distribution companies controlled by the Federal Government. In recent years, various measures have been adopted to reformulate the electricity sector, generally aimed at private investment and the elimination of restrictions on foreign investment, increasing competition in the electricity sector.​

From 1995, foreign investment has been authorized in the generation of electricity, and a portion of the representative shares held since then by Eletrobrás by various states and some state governments has been sold to private investors. Next, the Concession Law, Electricity Services Concessions Law, dating from the same year, and the Electricity Sector Law of 1998 have been issued to structure, control and optimize the electricity sector, which also became private.

In 2001, the country faced a serious energy crisis that lasted until the end of February 2002. To mitigate this crisis, the Federal Government implemented measures that included the institution of Rationing Programs in the regions most affected by the scarcity of electricity, and the creation of the Energy Crisis Management Chamber, which promotes energy consumption reduction targets among consumers. With the increased supply and reduced demand, the emergency measures and Rationing Program were suspended. In April 2002, the Federal Government published a General Agreement for the Electricity Sector to define the rules for compensation of the financial losses generated.​

On March 15, 2004 the Federal Government enacted a new legal framework for the electric sector, in an effort to restructure it. It is regulated by a number of decrees issued by the Federal Government in July and August 2004 and is still subject to future additional regulations.

CURRENT ELECTRICITY SECTOR MODEL

The New Electricity Sector Model Law(*) introduced relevant alterations to the regulations in the Electricity Sector aimed at providing incentives to private and public agents to construct and maintain generation capacity and guaranteeing the power supply in Brazil at reduced tariffs through public bidding processes. The main characteristics of the New Electricity Sector Model Law include:

  • Creation of two parallel environments for commercialization of energy with one for distribution companies, called the Regulated Contracting Environment and another market for free consumers and power commercialization companies, in which competition will be permitted, denominated the Free Contracting Environment.​
  • Restriction of certain activities by Distributers in order to guarantee that they are only directed to the main business, ensuring the most efficient and reliable services for consumers.
  • Restriction on self-dealing to provide an incentive so that Distributers contracted related parties.
  • Compliance with the contracts signed before the New Electricity Sector Model Law in order to provide stability to the transactions realized before its publication.
  • Prohibition of Distributers from selling electricity to free consumers at unregulated prices.
  • Creation of the obligation on distribution companies to sell 100% of their volume in order to mitigate/eliminate risks of energy supply deficiencies.
  • Creation of a specific technical agent to carry out centralized mid- and long-term planning of electric sector.
  • Consolidation of the competition model in the generation and trading sectors and robust regulations in the transmission and distribution sectors.

(*) The New Electricity Sector Model Law excluded Eletrobrás and its subsidiaries from the National Privatization Plan created by the government in 1990, aimed at promoting the state company privatization process.

PARALLEL ENVIRONMENTS FOR COMMERCIALIZATION OF ELECTRICITY

Pursuant to the regulatory model of the electric sector, energy purchases and sales shall be conducted in two markets: in Regulated Procurements, known as ACR, which includes the procurement of electricity by distribution companies at auctions to serve the entire market and the Free Procurements, known as ACL, which include energy purchases by unregulated agents, such as free consumers and traders.

The power generated by low capacity generation projects located near to consumption points (such as co-generation plants and small hydroelectric plants) plants qualified in accordance with PROFINA Itaipu is not subject to the auction process for the supply of energy to the Regulated Contracting Environment.

The quotas only apply to energy distribution companies in the South, Southeast and Central and Western regions of Brazil. The rate at which the energy generated by Itaipu is traded is denominated in US dollars and established in accordance with the agreement between Brazil and Paraguay.

REGULATED CONTRACTING ENVIRONMENT

In Regulated Procurements, distribution companies purchase energy for captive consumers at public auctions regulated by ANEEL and administered by the Electricity Trading Chamber (CCEE). Distribution companies should guarantee the procurement of 100% of their market via contracts registered at the CCEE: Energy Quantity Contracts and Energy Provision Contracts.

Energy can also be procured through distributed generation, which is limited to 10% of the volume. Distributed generation means that directly connected to the buyer‘s distribution system, except for that from hydroelectric plants with an installed capacity in excess of 30 MW and thermoelectric plants, including cogeneration, with energy efficiency of less than 75%.

According to the Energy Quantity Contract, the generating company commits to providing a determined amount of energy and assumes the risks of this energy supply being affected by hydrological conditions and low reservoir levels, which could interrupt the supply, in which case it will be obliged to purchase energy from another source in order to honor its commitment.

According to the Energy Availability Contract, the generating company commits to providing a specific amount of capacity to the Regulated Contract Environment. In this case the revenue of the generating company is guaranteed and possible hydrological risks are passed onto Distributers. However, eventual additional costs incurred by Distributers are passed onto consumers. Together, these contacts constitute the CCEARs.

According to the New Electricity Sector Model law, the market forecast of each Distributer is the main factor in determining the amount of electricity to be contracted by the system.

Purchases at ACR auctions are made jointly by the distribution companies, which form a pool of buyers in low bid auctions, known as reverse auctions, in order to reduce the cost of electricity for captive consumers, regardless of the distribution company‘s size.

Energy auctions are defined in accordance with the time between procurement and effective delivery of the energy by the Generator to the Distribution company. They are called:

  • A-5 Auction: energy procured for delivery within 5 years. Restricted to New Energy Sources (new ventures).
  • A-3 Auction: energy procured for delivery within 3 years. Restricted to New Energy Sources (new ventures).
  • Alternative Sources Auction: Energy procured from alternative sources, with an average delivery of 5 years after procurement. Restricted to New Energy Sources (new ventures).
  • A-1 Auction: energy procured for delivery within 1 year. Restricted to existing energy (existing ventures).
  • Adjustment Auction: energy procured for immediate delivery (demand adjustments). Restricted to existing energy (existing ventures).
  • The auctions have specific rules for passing through costs to rates, where the A-5 and Alternative Sources auctions entail full pass-through of costs to rates. This aims to impose on the sector the requirement for distribution companies to implement long-term planning to guarantee supply and implement sustainable ventures.

Structuring auctions also exist which entail energy from new ventures, at A-5 or A-3 auctions, which are given priority procurement and implementation due to their strategic nature and because they are in the public interest. Examples of these auctions were the Santo Antônio, Jirau and Belo Monte hydroelectric plants. These also entail full pass-through of costs to rates.

FREE CONTRACTING ENVIRONMENT

Free Procurements - ACL take place via electricity purchases and sales, involving concession operators, licensees and authorized electricity generators, traders, importers and exporters and free consumers. Trade relations between agents in the ACL are freely agreed and regulated by bilateral electricity purchase and sale agreements which amongst other items establish the terms and volumes.

Consumers eligible for procurement in ACL are those with volumes equal to or greater than 3,000 kW served with voltage equal to or greater than 69 kV or any voltage level, if the supply began on or after July 07, 1995.

Special consumers also exist which are individual or joint consumer units with volumes equal to or greater than 500 kW, but which do not qualify as free consumers. They have the alternative of acquiring electricity from SHPs and solar, wind energy and biomass ventures with an installed capacity in the transmission or distribution systems not exceeding 50,000 kW.

Once the consumers have opted for Free Procurements they can only return to the regulated market if they notify the local distribution company with at least five years‘ notice, or shorter notice at the distribution company‘s discretion.

GENERATION MARKET

Brazil has extensive plateau rivers fed by abundant tropical rainfall which maintains one of the largest freshwater reserves on Earth. Over the years this has led to the creation of an essentially hydraulic electricity system. As of December 2017 this type of energy accounts for 64% of Brazil‘s energy generation.

However, primarily due to the need to guarantee the energy supply for Brazil‘s development, the foundation of the new model for Brazil‘s electric sector in 2004 and the current environmental restrictions, which hamper the obtainment of licenses for flooding large areas of land (as is usual for hydroelectric plants), Brazil‘s electricity sector has been diversifying its sources. The main news is the increased participation of wind sources, which now account for around 7.8% of the total sector and thermoelectric sources, with around 28%, which are positive as they are fuelled by biomass in addition to fossil fuels.

Since the publication of the New Electricity Sector Model Law, generator companies have only been able to sell their power to distributers through public auctions conducted by ANEEL and operationalized by the CCEE. In the Free Contracting Environment, generator companies may sell their power to traders and distributers at freely negotiated process with a market of less than 500GWh/year and free customers.

In the bilateral contracts established and approved by ANEEL prior to publication of the New Electricity Sector Model Law, the prices negotiated between generator and distributer companies were generally influenced by the limitation of passing on the costs of acquiring electricity at tariffs charged by the distributers of their final consumers. The transfer of energy acquired under these contracts is limited by a value established by ANEEL called the "Normative Value".

For the bilateral contracts established under the New Electricity Sector Model Law, the limitation on transferring costs by distributers is based on the Annual Reference Value, which corresponds to the average calculated from the electricity prices in "A-5" and "A-3" auctions, calculated for all distributer companies. The Annual Reference Value creates an incentive for distributer companies to contact the expected supplies from the "A-5" auctions, in which lower prices are expected than the "A-3" auctions, and will be applied in the first three years from energy purchase contracts produced by new generation projects. After the fourth year, the cost of acquiring the power produced by such projects may be fully passed onto consumers.

These limitations on distributers passing on the costs of acquiring electricity end up influencing the electricity prices offered by generator companies, given these should be higher than the Normative Value or Annual Reference Value to be competitive and subject to the approval of ANEEL. The generator companies also count on the Energy Reallocation Value - MRE to assure the revenue corresponding to its Assured Power.

DISTRIBUTION MARKET

The distribution segment is the segment dedicated to delivering electricity to the end consumer. As a general rule, the distribution system is construed as the set of electrical equipment and facilities that generally operate at voltages below 230 kV, including low-voltage systems. 
Brazil currently has 54 public electricity distribution concession operators, in addition to a set of licensees (rural electrification cooperatives that have been classified as public electricity distribution licenses).

The 54 distribution companies operating in Brazil are privately owned and state-owned companies, which include major economic groups holding concessions in different regions of the country.

The incentive-based regulations, including the model of establishing rates by the Price Cap methodology, incorporated by the 1995 Concessions Law, imposed on the sector the requirement to operate with operational efficiency.

Energy rates are set by ANEEL via periodical procedures supported by mechanisms that aim to establish an adequate rate level to guarantee the economic and financial equilibrium of companies at the minimum cost to consumers. The main rate regulation mechanism is the so-called Periodical Rate Review. In addition to this mechanism, every year Ordinary Rate Adjustments are made to adjust rates for inflation and to capture part of the efficiency obtained by the companies as a result of the market growth observed in the period.

The distribution concession operators impose on the operator‘s obligations essentially consisting of the requirement to serve the entire geographical area awarded on the same conditions, ensuring equal prices and services.​​​

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