Legal uncertainty overshadows Brazil gas distribution contracts

Legal uncertainty in Brazil's natural gas distribution sector could hinder the government's plans to encourage the use of the fuel to support the country's industrialization.

One of the most recent episodes involves the rate review of Sulgás, the concessionaire in southern state Rio Grande do Sul.

The company asked regulator Agergs for a 62% increase in relation to the gross margin applied in 2023, which would mean it would increase to 0.7592 reais (US$0.12) per m3 – a margin that represents 20% of the final rate charged to consumers.

However, after a public consultation and hearing held in November, Agergs decided on a 7% adjustment, so that Sulgás' gross margin would be set at 0.5014 reais/m3. This decision is subject to appeal.

On the one hand, Agergs' decision pleased industrial and large consumers, who said the adjustment proposed by Sulgás would harm competitiveness and discourage investment in Rio Grande do Sul.

Brazil’s piped gas distributors association Abegás said the decision affects contractual components that impact the distributor's legitimate margin and could have a substantial effect on the growth of piped gas infrastructure in Rio Grande do Sul.

According to the organization, Agergs has even come out against previous decisions by the agency itself, which provided for respect for the provisions of the concession contract.

“The changes proposed by the agency could compromise the distributor's ability to reach new markets and reduce costs in the long term, as well as making it impossible for natural gas and biomethane to reach new industries, businesses and homes,” claimed Abegás.

Sulgás was privatized in 2021 when it was sold to Compass, of the Cosan group, which made a commitment to the Rio Grande do Sul government to invest 300mn reais over five years.

According to experts interviewed by BNamericas, the Agergs decision creates legal uncertainty because it violated clauses in the concession contract, given that the watchdog stated that a review and adaptation of the contract would be necessary.

“If, hypothetically, this view is correct, it would be up to the awarding authority, in the first place, to add to the concession contract and change the rate review methodology provided for, but never to proceed directly to violate a contract that, in its view, should be updated,” a lawyer told BNamericas on condition of anonymity.

Eduardo Schiavoni, of law firm Schiavoni Advocacia, said contracts cannot be modified “while the game is in progress,” otherwise there will be severe damage to companies and, ultimately, consumers.

“Ideally, any change in the contractual calculation method should be debated with the sector and studied before being modified,” the lawyer told BNamericas.

He said the Brazilian natural gas market is far from international best practices and that, in order to get there, the country needs to establish a system of competition on the supply side and eliminate barriers so that consumers have freedom of choice.

“What we saw in the Sulgás case is a portrait of what’s been happening systematically in the national gas market. Tackling this issue is fundamental if the gas market is to take a step forward,” said Schiavoni.

Gustavo Quedevez, from law firm BVA Advogados, said that, in general, these issues are resolved through conciliation before they reach arbitration.

“As this is a public contract, it's normal for there to be discussions. They are at a point of negotiation. But technically, if the distributor believes that the amount is not adequate, it has instruments and guarantees in the contract to be able to demonstrate this,” the lawyer told BNamericas.

The experts interviewed said the biggest regulatory risks in gas distribution are the existence of varied and sometimes conflicting understandings by regulators and contractual violations by the agencies to meet pressures from the industry and large consumers, to the detriment of the concessionaires.

Sergipe

It is not just in Rio Grande do Sul that discussions about distribution rates are on the agenda.

In the northeast state of Sergipe, the local government is discussing changing the contract with distributor Sergipe Gás (Sergás) to reduce its rate of return, which is currently around 20%.

The proposal has the support of large gas consumers and the federal government, which is working to stimulate the gas market as a vector for Brazil's industrialization.

With the renegotiation in Sergipe, there is a possibility that the review process could be repeated in other states with similar contracts.