On August 8, 2022, the Energy Regulatory Commission (“CRE”) sent to the National Commission for Regulatory Improvement (“CONAMER”) a Draft Order to issue the “General Administrative Provisions that Establish the Proceeding and Requirements for the Authorization of Cross-Participation, the Methodology for the Analysis of its Effects on Competition, Efficiency in Markets, and Effective Open Access, and Interpret for Administrative Purposes, the Cross-Participation Provided for in the Second and Third Paragraphs of Article 83 of the Hydrocarbons Law” (the “Draft Regulation”).

This regulation is proposed under Article 83 of the Hydrocarbons Law (“HL”), which establishes the CRE’s authority to regulate cross-participation (i.e., vertical integration) in the markets of hydrocarbons (oil & gas), refined products, and petrochemicals. The HL calls for this vertical integration approval from CRE, having previously obtained the opinion of the Federal Economic Competition Commission (“COFECE”), Mexico’s competition agency.

We note that back in September 2021, COFECE issued an opinion that a regulation proposal similar to the Draft Regulation could hurt competition in said markets and gave recommendations accordingly. Fundamentally, COFECE recommended that the CRE refrained from encroaching its constitutional powers as the specialized authority on competition matters in the relevant hydrocarbons sectors and avoided generating legal uncertainty to permit holders that fall under the cross-participation regulation. The Draft Regulation disregards such recommendations.

Once in effect, the Draft Regulation would apply to vertically integrated corporate groups participating in the referred markets and that simultaneously maintain direct or indirect participation on producers, marketers, or end-users, as well as on permit holders of open access transportation or storage facilities. The Draft Regulation will significantly increase the regulatory burden for applicants to request authorization on cross-participation. It would also modify the current coordination proceeding between the CRE and COFECE to obtain the latter’s opinion on cross-participation in accordance with the third paragraph of Article 83 of the HL (as further detailed below).

According to its transitory provisions, the Draft Regulation is intended to repeal Order A/005/2016 issued by the CRE in 2016, whereby it had established a proceeding to obtain the cross-participation authorization, including COFECE’s opinion. Nonetheless, proceedings initiated before the entry into force of the Draft Regulation shall be conducted in accordance with Order A/005/2016 unless it is otherwise requested in writing by the permit holders through a new request for cross-participation authorization.

The primary purpose and scope of the Draft Regulation are to establish: (i) definitions of several key concepts for the cross-participation authorization proceeding; (ii) an interpretation for administrative purposes of said cross-participation provisions; (iii) the methodology to analyze the effects of the cross-participation in competition, market efficiency and effective open access; and (iv) the proceeding and requirements to obtain the cross-participation authorization before the CRE, as further detailed below:

• Relevant Definitions

Several critical concepts for analyzing competition effects arising from the cross-participation are defined under the Draft. For instance, definitions of “Economic Group”, “Control”, “Available Capacity”, and “Market Harm” are provided in the Draft Regulation.

• Administrative Interpretation

Similarly, different terms that are central to the analysis of the effects of the cross-participation are interpreted for administrative purposes, such as “Effective Open Access”, “Competition”, “Market Efficiency”, and “Changes to Cross-Participation”, as well as the definitions of permit holders of transportation and storage facilities, and of marketers, producers, and end-users, among others

• Methodology for the Analysis of Effects on Competition

Specific criteria are established for the analysis and determination of potential effects on competition, market efficiency, and effective open access that may result from the cross-participation authorization, including identification of the Economic Group of the applicants (with definitions on control mechanisms), definition of Economic Activities (relevant market), analysis of area of influence and market harm.

The Draft Regulation mandates that applicants demonstrate efficiency gains superior to any potential harm to competition, market efficiency, and effective open access, which shall increase consumer welfare. A non-comprehensive list of efficiency gains is established, which includes transferring or developing technology in production methods that entails a cut in costs, among others.

• Proceeding and Requirements for the Cross-Participation Authorization

Detailed instructions and formats to submit information and documentation before the CRE are provided in the Draft Regulation. Moreover, several new requirements to apply for the authorization are established.

A cross-participation authorization proceeding may be initiated by either the permit holder or the CRE when: (i) the permits are granted; (ii) changes in the shareholding structure of the members of the economic group are carried out; or (iii) changes in market conditions occur.

Economic agents will have 60 business days to request the authorization after the CRE's notification of the permits' granting or of the authorization of changes in the permits. The request shall include all the information and documentation as required by the CRE under the Draft Regulations; otherwise, it may not be admitted.

If the request is duly submitted, the CRE will have it admitted and indicate the terms by which the applicants shall present the request for a favorable opinion before COFECE. This condition diverges from current practice, where applicants first request to COFECE its opinion and later the CRE considers it. Moreover, the applicants are required to submit the opinion of COFECE within the term provided for in the Draft Regulations. Otherwise, the request is deemed as not presented, and a violation of Article 83 of the HL will be materialized.

If the CRE concludes that the cross-participation authorization requested will affect competition, market efficiency, and effective open access, the applicants may propose, or the CRE may determine remedies to suppress the identified negative effects.

The Draft Regulation is now under the statutory notice for comment period, after which it may authorized by CONAMER and adopted by the CRE.