Brazil sees need to expand generation capacity

By Michael T. Burr

Contributing Editor

Brazil faces a need to expand electric generation capacity by 25 GW through the year 2004. This means that about 10- to 350-MW plants need to be installed during each of the next eight years. The situation is particularly serious in the populous, industrialized South and Southeastern regions. As a result, the new government is taking measures to attract private power developers and accelerate privatization.

The progress is encouraging, but a number of fundamental issues must be addressed before international firms can begin meeting the power demands. Stumbling blocks remain: regulatory hurdles, market imbalances, credit worthiness concerns, and a history of political and economic volatility.

Rising demands

Power demand in Brazil has been rising in the past two decades, and conservative estimates project 5 percent to 6 percent annual growth through 2004. As a result, Brazil will need 13.5 to 36 GW of new capacity in the decade, totaling (US)$20 billion to (US)$54 billion in investment.

“Unless firm actions are taken, we will see major power shortages,” said Carlos Eloy Carvalho Guimaraes, Companhia Energ?tica de Minas Gerais (CEMIG) president, the government-owned electric utility serving the southeastern state of Minas Gerais. CEMIG, one of the largest state utilities in Brazil, estimates that the state of Minas Gerais needs about 1,700 MW of new capacity with a total investment of (US)$2.8 billion through 1998.

“We are seeing 1.5-million new hookups every year,” he said. “Without immediate investment in new generation, there will be power rationing in the Southeast region. Now, only IPPs and state utilities working together can head off a power crisis. Cogeneration and IPPs will play an important role.”

Today, private power contributes little, apart from some industrial cogeneration and self-generated hydropower. About 40 percent of Brazil`s 52 GW is generated and distributed by the federal government-owned utility, Centrais Eletricas Brazileiras SA (Electrobras) and its four regional subsidiaries: Furnas Centrais Electricas (Furnas), in the Southeast and Central areas; Centrais Eletricas do Norte do Brasil (Electronorte) in the North and Central region; Centrais Eletricas do Sul do Brasil (Electrosul) in the South; and Companhia Hidroeletrica do Sao Francisco (CHESF) in the Northeast.

Electrobas also owns two distribution utilities, Servicos de Eletricidade SA (Light), serving Metropolitan Rio de Janeiro, and Espirito Santo Centrais Eletricas SA (Escelsa), in the state of Espirito Santo. The remainder of Brazil`s power is generated by a number of regional and municipal utility companies, many of which are investor owned.

To facilitate international participation, the government is taking steps to restructure Brazil`s power industry in a way that will attract offshore private power developers. With a number of policy actions, beginning in 1993 and continuing through enactment of the Public Service Law in June 1995, the government has broken with Brazil`s tradition of building massive, publicly sponsored projects. Instead, it has moved toward privatization and a competitive power market.

Numerous private power projects, with a variety of sizes, technologies and sponsoring consortia, are advancing under the country`s new policies. Examples include a proposal by a partnership of Australian conglomerate BHP Power, Tenneco Gas of the United States, and British Gas PLC to refit and expand an existing 470-MW oil-fired project in Sao Paulo state to burn gas and generate 1,200 MW; a plan by GE Power Systems to develop 16 coal-fueled, integrated gasification combined-cycle IPPs in the states of Santa Caterina and Rio Grande do Sul over the next decade, at a cost of (US)$5.7 billion; and a 230-MW or larger, cogeneration project solicited by Brazilian steel producer Companhia Siderurgica Nacional (CSN), which would capture waste heat from CSN`s steel furnaces.

The transition in Brazil`s policies traces its roots to a series of ambitious economic restructuring initiatives spear-headed in the early 1990s by Fernando Cardoso, then-finance minister under President Fernando Collor de Mello. Cardoso won the presidency by a modest but secure margin in national elections in October 1994, and the new federal government–helped by new state administrations and utility leaders–has since jump-started the reform process.

Not all lawmakers and utility executives agree on the regulatory framework. For example, labor leaders resist privatization on the basis it could lead to job cuts. Nevertheless, Brazil`s determination to create a structure to encourage private investment is clear. It is further evidenced by the recent launch of the federal government`s long-delayed utility privatization program.

In July 1995 a controlling interest in distribution utility Escelsa was sold into private hands. The Iven Group, a consortium of Brazilian investment institutions Banco Pactual, Banco Icatu, Banco Opportunity, Banco National and Bozano Simonsen, along with 10 Brazilian pension funds, paid the equivalent of (US)$387.33 million for 50 percent plus one share in Escelsa. Plans for unbundling and privatizing Light, Electrobras and other distribution utility, could come to fruition in the next few months.

While the Escelsa and Light privatization involve only minimal generation assets, Brazil`s federal government announced early in 1995 it would sell its four major generating subsidiaries. The total value is estimated at about (US)$120 billion. In July, Eletrobras called for bids from consulting firms for contracts to study models for privatizing the four utilities–Furnas, Eletrosul, CHESF and Eletronorte–with sell-offs to begin in July 1996.

Privatizations are proceeding at the state level as well. In Sao Paulo, the state government has developed a plan to restructure its power industry, including three utilities with an aggregate capacity of 9,033 MW. The Sao Paulo government plans to unbundle the utilities` generation, distribution and transmission assets, and then to sell the companies in about two years. Utilities to be included in the privatization include Companhia Energetica de Sao Paulo (CESP), Eletricidade de Sao Paulo (Eletropaulo) and Companhia Paulista de Forca e Luz (CPFL).

In addition to privatizing utility companies, about 8.4 GW of power projects that are stalled in various stages of construction are being sold by Brazil`s utilities under the federal government`s February 1995 Provisory Measure 890. Sponsors of these plants face having their concessions opened for competitive bidding unless they can prepare a completion plan within six months. The Measure establishes a guideline that at least one-third of the investment required for such projects come from private sources. The government hopes large consumers of power may find it attractive to invest in these projects to ensure adequate power supplies.

Consortia have already been formed to advance several stalled plants. An example is the (US)$270 million, 210-MW Igarapava hydropower project, in construction on Brazil`s Rio Grande between the states of Minas Gerais and Sao Paulo. A consortium of four private companies and two state organizations were formed in May 1995 to provide financing to complete the project which is, scheduled for start-up in October 1998.

Policies and obstacles

Brazil`s structure for power policy-making and regulation is in transition. However, the groundwork is rapidly being laid through the new Public Service Law. The National Water and Electricity Regulatory Agency (DNAEE), an administrative body within the Ministry of Mines and Energy, will be responsible for the power sector.

Also, authority for establishing pricing policies and methodologies for wheeling power through interconnected transmission systems lies with the Sistema Nacional de Transmissao El?trica (SINTREL). Coordinated by Eletrobras, SINTREL is an institutional pact of distribution utilities charged with providing open access to transmission systems and establishing an electric power spot market. SINTREL was created in December 1993 by executive decree and promises to play a large role in facilitating the creation of a competitive power market in Brazil.

In addition to the federal government, energy regulating agencies of Brazil`s 26 states and one federal district have regulatory authority over state-level utility activities, including asset sales and restructuring. With a trend toward decentralization of regulatory authority, state agencies could become a significant factor in the move toward competition and private investment in Brazil`s utility industry.

While policy-makers are finding some success in breaking down institutional barriers, their efforts have had little effect on a number of stubborn obstacles in the power market.

First, most of the country`s utilities are not creditworthy, making project financing difficult. “An equity ratio of 30 percent is required in Brazil and elsewhere in Latin America due to the risks of the energy takers, as well as the currency risk,” said Rennet Soubrette de Marries of Chase Global Power. “Also, energy subsidies are a problem, including cross-subsidies.” Restructuring, unbundling and privatization measures at the state and federal levels are aimed at reversing this situation, but the process has not yet advanced far enough to claim success.

Second, uncertainty about how DNAEE and other regulatory agencies will develop Brazil`s new regulatory framework provides cause for caution. Details of the new competitive bidding system are sketchy so far.

Third, the domination of hydropower in Brazil`s power industry, coupled with subsidized electricity rates, tends to tilt the market against new, thermal power plants. About 96 percent of Brazil`s power is generated by hydropower plants. Because the dynamics of hydropower minimize the need for peaking capacity, rates on the margin of such a system tend to be low. This is exacerbated by the fact that the country`s installed capacity is already largely depreciated.

Finally, while Brazil`s current administration has a firm grip on the reins of government, the country has a stormy political history. “If you consider the past as an example of what will happen in Brazil, you won`t have much confidence investing in Brazil,” said Antonio Tavares Paes Jr., Scudder, Stevens & Clark vice president. “Three years of success are not enough for 20- to 30-year investments. However, the risk of insurrection and nationalization are not major risks in Brazil. The solid legal system provides a good foundation for private investment.”

Given the market uncertainties, Brazil is a country best approached with a degree of caution. Nevertheless, Brazil ranks among the most interesting private power markets in the world, with greenfield development and privatization opportunities totaling as much as 40 GW by the year 2004. This enormous market potential, combined with increasing political momentum to reform, bodes well for private power development in Brazil.