The Energy Regulatory Commission has submitted a draft of new administrative provisions to update the methodology for the determination of natural gas pipeline transportation and storage rates.

On May 10, 2023, the National Commission for Regulatory Improvement (“CONAMER”), published in its web page the draft of the General Administrative Provisions the Specify the Methodology for the Determination of Natural Gas Pipeline Transportation and Storage Rates (the “Proposed DACGs”), filed by the Energy Regulatory Commission (“CRE”).

Once they become effective, the Proposed DACGs shall substitute, with respect to natural gas pipeline transportation and storage activities (but not with respect to natural gas distribution activities): (a) the Accounting directive for natural gas regulated activities DIR-GAS-002-1996, (b) the Directive for the determination of rates and pass-through prices for natural gas regulated Activities DIR-GAS-001-2007, and (c) the CRE’s resolution number RES/233/2013 containing the criteria for the application of the cost of capital for natural gas pipeline transportation.

The Proposed DACGs regulate

• The maximum rates that the holders of natural gas pipeline transportation and storage permits may apply in the provision of their services;
• The updates or modifications to the maximum rates applicable to such services;
• The indicators, references, parameters, criteria and other elements related to the determination of rates, and
• The criteria applicable to conventional rates.

In addition, Annex 2 of the Proposed DACGs contains the set of accounting criteria and guidelines applicable to natural gas pipeline transportation and storage activities.

General Aspects

Under the proposed DACGs, permittees shall request the approval of their maximum rates in the following cases:

• Prior to the commencement of operations, in the understanding that the permittees may not initiate operations without the CRE’s approval of their initial maximum rates;
• Following the authorization of a modification of the technical characteristics of the relevant system, once the permittee has obtained the CRE’s resolution approving the modification of its permit;
• Every 5 years, through the five-year review procedure set forth in the Proposed DACGs, in the understanding that the request for approval shall be filed 6 months before the end of the then current five-year period, and
• Whenever the permittee is required to make additional investments to those foreseen in its business plan, as a result of the legal or regulatory changes.

Maximum rates shall be denominated in pesos and shall be determined based on the business plan and required revenue analysis filed by the permittee and approved by the CRE. The required revenue is the projection of the revenues that the permittee considers necessary to cover the costs, taxes, depreciation, reasonable profitability and other obligations inherent to the provision of services during the corresponding five-year period.

The maximum rates approved by the CRE shall be published in the Federal Register (Diario Oficial de la Federación), the official gazettes of the states where the services are provided and the permittee’s electronic bulletin.

Rate Models

The Proposed DACGs allow permittees to choose between two different rate models to determine their maximum rates: the five-year period model and the levelized model.

The calculation of maximum rates based on a five-year model shall consist of the division of the sum of the fixed and variable parts of the revenue requirement by the sum of the expected demand associated to each one of those parts, respectively, during the relevant five-year period.

Such demand shall be identified as: (a) operating capacity for the calculation of the transportation capacity charge and storage capacity charge (intended to recover fixed costs, in the understanding that a utilization factor of less than 100% may be approved if the permittee justifies that a lower utilization factor is efficient considering the maximum projected demand and the specific circumstances of the system, and does not entail an unjustified oversizing of the operational capacity), (b) conducted energy for the calculation of the transportation usage charge (intended to recover the variable costs of transportation systems), or (c) storage volume projection for the calculation of the storage usage charge (intended to recover the variable costs of storage systems).

If the levelized model is chosen, the maximum rates shall be determined in accordance with a discounted cash flow model, based on a proforma income statement and the net cash flow using the information submitted by the permittee in its revenue requirement analysis. The levelized rates shall be calculated to acquire an optimized revenue to obtain cash flows that yield a present value of zero, considering a discount rate equal to the weighted average cost of capital and a time horizon equivalent to the effective term of the corresponding transportation or storage permit.

Rate of Return; AFUDC

The reasonable rate of return applicable to determine maximum rates shall be calculated based on financial risk analysis measurements and technics commonly used in the natural gas industry, such as capital assets pricing model and the weighted average cost of capital, along with any other information or methodology available and generally accepted for this purpose.

The methodology for the calculation of the cost of equity (based on the capital assets pricing model) is included in Annex 1 of the Proposed DACGs. Based on such methodology and a sample of the rate of return of the shares of 19 corporate groups participating in the Mexican natural gas midstream sector, the CRE has determined a cost of equity for natural gas pipeline transportation and storage activities of 9.9126%, which is intended to be updated every 5 years.

For the determination of the initial maximum rates of a system (and only in that case), the CRE shall approve certain allowance for funds used during construction, as part of the fixed assets base. These funds shall correspond to capital expenditures incurred that are strictly related to the construction activities required for the commencement of operations of the relevant system, within a period not to exceed 12 months.

Periodical Reviews and Adjustments

An overall review of the maximum rates shall be undertaken by the CRE and the permit holder every 5 years for the determination of new rates, which shall have no retroactive or compensatory effects (except for certain compensatory adjustment that may be applicable in case the review process is extended beyond the term established in the Proposed DACGs, for reasons attributable to the CRE).

On the other hand, the Proposed DACGs provide that the maximum rates may be subject to annual adjustments based on:

• inflation (US and Mexican, in the proportions approved by the CRE), exchange rate variations (applicable only to certain portion of the authorized required income),
• an adjustment factor reflecting the expected increase in the efficiency of providing the services (in the understanding that this adjustment shall not be applicable during the first 5 years of the permit); and
•  the pass-through costs incurred by the permit holder during the previous year due to changes in the applicable tax regime.

In addition, extraordinary adjustments due to exchange rate variations and changes in the applicable tax regime may be approved by the CRE, in duly justified cases.

The adjusted rates are subject to CRE approval.

Moreover, the Proposed DACGs provide that the maximum rates may be modified if (i) the permittee is required to make additional investments as a result of changes in the applicable laws and regulations, or (ii) the CRE authorizes a modification of the technical characteristics of the relevant system.

Interruptible Services; Fuel Gas and Operational Losses

The Proposed DACGs include new parameters to determine the rates applicable to interruptible services, which shall be determined by adding 99% of the capacity charge plus the usage charge applicable to firm services.

On the other hand, under the current Directive, permittees have the obligation to distribute among the users of firm services part of the revenues obtained from the provision of interruptible services through unused reserved capacity; however, under the Proposed DACGs, it is unclear whether that obligation will continue or if it will only be applicable in the case of other services (different to transportation and storage), which may be offered on an interruptible basis.

The charge of fuel gas and operational losses is subject to a maximum of 2% of the natural gas transported or stored in the relevant system (except in justified cases). This charge shall only be authorized if the permittee has implemented a program for the reduction of losses (which shall be previously agreed with the CRE), among other requirements.

Public Bid Processes

If a permittee will be providing services as a result of winning a public bid process, the permittee shall file (along with the rest of the information normally required for the approval of its initial maximum rates), a series of information related to the investments and costs considered related to the services that were considered in the bid process, as well as the bid documents.

In these cases (i) the permittee’s business plan shall be based on the information used in the bid process (and any differences shall be justified); and (ii) as part of its evaluation of the information submitted by the permittee, the CRE may consider adjustments to the applicable evaluation criteria considering that the bid process is a competitive process (and therefore, it is assumed that the process complied with the principles allowing the efficient development of the industry and competition in the market), and the need to maintain consistency between the conditions of the award obtained in the bid process and the relevant permit.

Conventional Rates

Permittees may offer their services based on conventional rates and charges, which shall be lower than the maximum rates approved by the CRE, except when the following conditions are met:

• the term agreed for the conventional rate is longer than 5 years;
• at the time of agreeing the conventional rate, such rate is lower than the corresponding maximum rate;
• the relationship between the conventional rate and the maximum rates is inverted as a result of the annual adjustments applicable to the maximum rates, and
• the permittee has informed the relevant users that the level of the agreed conventional rates could be higher than the maximum rates approved by the CFE as a result of such adjustments.

Additionally, long term conventional rates may be agreed upon, which may be higher than the maximum rate for the corresponding service, whenever those conventional rates result from: (a) a public bid process carried out before the determination of the maximum rates, or (b) an open season process carried out before to the approval of the maximum rates, provided that such open season process is previously approved by the CRE.

Conventional rates shall be subject to criteria of general application, shall not be unduly discriminatory and shall not be lower, in any case, than the variable cost of providing the specific service.

All contracts subject to a conventional rate shall make reference to the maximum rate that would have been applicable to the service if it had not been rendered under a conventional rate and shall be registered with the CRE.

Reporting Obligations

The Proposed DACGs include a series of reporting obligations whereby permittees are required to file with the CRE, on annual basis, information related the rates applied during the previous year, the revenues obtained and the permittee’s audited financial statements.

Saving Provisions

Permittees who, at the time of the Proposed DACGs become effective, are in process of obtaining the approval of their maximum rates (initial rates or otherwise), shall be allowed to continue with such process in accordance with the current Directive.

Once they become effective, the Proposed DACGs will be applicable to any permit applicants who have not yet obtained a permit, and any permittees who have not yet requested the determination of their initial maximum rates.

Permittees who already have maximum rates approved by the CRE at the time the proposed DACGs become effective shall continue applying such maximum rates during the rest of the 5-year period for which such rates were approved, and the Proposed DACGs will become applicable to such permittees upon conclusion of such 5-year period.

The contracts agreed by the permittees before the Proposed DACGs become effective, where a conventional rate has been agreed, will remain effective, without prejudice of the modifications that the contracting parties agree by mutual consent, provided that such modifications will be subject to the regulation set forth in the Proposed DACGs.

The Proposed DACGs are available for consultation (in Spanish) here:

• CONAMER - Sistema de Mejora Regulatoria

Any interested parties may submit comments to the Proposed DACGs, through CONAMER’s web page.