Deregulation and Reform

What are the implications of Mexico’s shifting power market?

Laura_Sanchez_Editor

In 2013, the Mexican government began a series of energy reforms to encourage economic growth and make the sector more competitive, less expensive, and environmentally sustainable. It began by amending the constitution to allow private investment, a decision that has led to the dissolution of state-owned monopolies, Pemex and the Comisión Federal de Electricidad.

As Mexico’s power market continues to experience extensive reform, questions arise regarding the outlook for energy pricing and what the new structure will mean for consumers. Energy deregulation is certain to have a significant impact on Mexico’s commercial, institutional, and industrial customers. But what should companies expect in terms of infrastructure development? What potential investment opportunities do the reforms create?

We reached out recently to Michael Hinton, the Chief Strategy Officer at Allegro Development, a commodity management software developer, to learn about some of the potential impacts that he foresees. We’re pleased to share his insights here.

Distributed Energy (DE): What impact will the new structure have on Mexican C&I customers?

Michael Hinton (MH): Because electricity has been subsidized for so long and the current cost paid by commercial and industrial [“C&I”] customers is below cost, it is reasonable to assume this segment will see an increase in costs. It’s also reasonable to assume C&I customers will see an increase in the number and type of electricity products available. Finally, it’s also expected there will be bumps along the waygrowing painsas the market evolves and matures.

DE:  Will we see an increase in PPAs?

Michael Hinton

Michael Hinton, Chief Strategy Officer, Allegro Development

MH: Know that PPAsa long-term transactional agreement for buying and selling electricityhave been the historical vehicle of choice for C&I customers to purchase electricity. The nature of PPAs is that the market is illiquid, as most of the purchases and sales are locked up in these long-term agreements. Presuming that the Basic Service Tariff Rate increases, as expected, we would anticipate a decrease in PPAs, as players seek to procure power in real-time, day-ahead, and other types of arrangements that are commonly found in deregulated markets.

DE:  What should be expected in terms of infrastructure development?

MH: The level of exuberance among investors seeking to get involved in Mexico’s deregulation is high. For instance, permits have been issued to build out additional generation capacity equivalent to twice Mexico’s actual need. Expect a significant rush of capital seeking out profitable opportunities, resulting in a boom of infrastructure build-outs.

DE:  What should international investors watch for with regard to potential opportunities?

MH: Both traditional energy companies and private equity-backed ventures are rushing into Mexico. Both long-term asset plays (refined products terminals, power generation assets, pipelines, etc.) are being purchased, financed, or constructed, but also short-term marketing plays, such as natural gas, power trading, and refined products, are likewise being funded or expanding.

DE: Will deregulation allow increased private investment in specific facets of the energy industry?

MH: It will be interesting to see how the situation takes shape, but it’s conceivable that every part of the energy industry will one day have private investment to at least some degree. The emphasis is on conceivablethere’s quite a gap from concept to actuality, and this could be years or maybe even decades from now. We have to remember deregulation doesn’t have complete support, whether among Mexico’s leadership or the people. It’s going to take time, and there will be detractors. One view worth considering came from Deloitte, which published a study indicating the wholesale market probably would provide the greatest opportunities in the early days. DE_bug_web

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