Constitutional Reform Initiative on Energy Matters

Specifically, the most relevant aspects of the Reform Initiative are the following: Electric Power: • This is a reform that entails drastic changes to the industry and a substantial impact on existing private investment in the sector. By express provision of this reform, all electric power generation permits granted to private parties to date, as well as the electricity purchase and sale agreements they have entered into, would be cancelled. Likewise, the wholesale electricity market in Mexico would essentially disappear, and a new regime controlled by the Mexican State through the Federal Electricity Commission (“CFE”) would be established. Under this new regime, private parties could only contribute up to 46% of the energy required by the country, and would do so under the terms and conditions unilaterally determined by CFE itself “considering total production costs” and “guaranteeing the lowest costs for the public service.” • The Mexican State, through CFE, would regain monopolistic control of the national electricity sector, becoming the body in charge of: (i) the distribution, transmission, transformation and supply of electric power, (ii) the purchase and sale of electric power from private generators, (iii) the exclusive sale of electric power to end users, (iv) tariff regulation of distribution, transmission and final cost of electric power, and (v) the control and operation of the National Electric System. The Reform Initiative seeks to have the Energy Regulatory Commission (“CRE”) “suppressed” with the intention that the Ministry of Energy (“SENER”) absorb its functions and structure. Additionally, the National Energy Control Center (“CENACE”) would be reincorporated into CFE’s organizational structure. • With these changes, the electric power and capacity generated by the private sector may only be acquired by CENACE through the execution of long-term bilateral financial coverage agreements or through the contractual mechanisms determined by CFE under a “special contracting regime” different from those established in article 134 of the Constitution, thereby creating an exceptional public contracting regime. CENACE would acquire such electric power from the private sector taking into account the competition among such sector and its production costs. • The “electric power self-supply” arrangement regulated by the Electric Power Public Service Law (“LSPEE”) will not be recognized; however, those power plants that generate energy and capacity under such scheme in an “authentic” manner (an adjective used in the Reform Initiative whose application will depend on the interpretation adopted) in compliance with such legal ordinance may continue generating electricity for sale to CFE, through CENACE. Along these lines, the “independent power producers” that have entered into electric power and capacity purchase and sale agreements with CFE under the LSPEE would no longer be recognized as such given that this regulatory arrangement would cease to exist; however, as is the case with the “self-supply” scheme, such power generators could continue generating electricity for sale to CFE, through CENACE. In this regard, it can be interpreted from the Reform Initiative that (i) the energy purchase and sale agreements currently entered into between such producers and CFE would be “cancelled” or terminated early, (ii) the electric power generated by such producers may be sold to CFE, through CENACE, under a regime of competition among the private sector determined by the energy production cost as regulated by CFE, and (iii) the purchase and sale of surplus electric power from such producer would be eliminated. The generation of electric power under the “self-supply” and “independent power producer” schemes would be considered within the maximum limit of 46% private-sector participation in electric power generation. • The power plants built as of the 2013 energy reform would also be considered within the 46% private-sector participation in electric power generation. However, it follows from the Reform Initiative that the electric power and capacity of such plants would be acquired exclusively by CFE, through CENACE, as would be the case with the electric power generated under the “self-supply” and “independent power producer” schemes. The same would occur with the power plants related to the Long-Term Auctions, in which case the electric power generated by such plants could be acquired by CENACE, thereby causing the coverage agreements currently entered into with CFE Basic Services Supplier and/or with CENACE, in its capacity as clearinghouse, to be terminated early. • The “strict legal separation” of CFE would be eliminated in order to reintegrate it as a single State entity, maintaining the subsidiaries CFE Telecomunicaciones e Internet para Todos and the affiliates CFEnergía, CFE Internacional and CFE Capital, and being further able to incorporate any other subsidiary and/or affiliate it deems necessary. • By virtue of its control over the operation of the National Electric System, CFE will be in charge of determining the dispatch of power plants, defining shutdowns, operating conditions, etc., which could translate into priority in the dispatch of CFE’s own power plants and, therefore, would imply placing at a disadvantage any electric power generation project developed by the private sector. • The “sovereign energy transition” would be exclusively in charge of the Mexican State without the participation of the private sector, with the State being responsible for using all available energy sources (regardless of whether they are clean or conventional) to reduce greenhouse gas emissions and components. In this sense, the “clean energy certificates” would be eliminated—the only legal instrument that currently exists in Mexico’s regulatory framework to incentivize the generation and use of electric power from clean and renewable sources—which contravenes the Energy Transition Law, the General Climate Change Law and the Electric Industry Law, among other local regulatory bodies and international commitments to mitigate the adverse effects of climate change. Additionally, “the industries required for the energy transition” would be considered as priorities for national development, so the public sector would be exclusively in charge of such industries, understood as those related to the entire value and/or supply chain of the electric industry in Mexico. Taking into account the limitation on private-sector participation in the Mexican electric industry and the core points of the Reform Initiative on electricity matters indicated above, the Reform Initiative would imply the imminent elimination of the Wholesale Electricity Market (“MEM”), thereby suppressing, among others, the purchase and sale of electric power and associated products in such market, as well as the repeal of the MEM Bases and the MEM Rules. This, coupled with the fact that CFE would be the only company able to sell electric power to end users, would de facto eliminate any free-competition market in the electric sector. • Finally, it is established that the functions exercised exclusively by the State in Electricity matters would not be considered a monopoly. Mining: • The Reform Initiative incorporates lithium as an asset of the Nation’s domain, which will be inalienable and imprescriptible, as well as the other strategic minerals for the Energy Transition, which may not be granted under concession. • The Reform Initiative does not describe what should be understood by “minerals considered strategic for the energy transition,” so it would be the secondary legislation that could describe them or leave them to the discretion of the Ministry of Economy. • No new mining concessions would be granted over lithium and other minerals considered strategic and necessary for the sovereign energy transition, on the understanding that those mining concessions already granted by the Mexican State under which gold, silver, copper and other minerals are being explored and/or exploited would be respected. Likewise, the mining concessions already granted where there are records of lithium exploration duly endorsed by the Ministry of Economy will be respected. • As a result of the foregoing, lithium and other strategic minerals would be incorporated as a strategic area of the State, in accordance with the provisions of the sixth paragraph of article 27 of the Constitution, so the State would be exclusively in charge of any activity related to such activities. • It is provided that the functions strategically exercised by the State over radioactive minerals, lithium, and other strategic minerals would not be considered a “monopoly.” Hydrocarbons: • The Reform Initiative suppresses the existence of the National Hydrocarbons Commission (“CNH”), establishing that the powers and structure of this body, like the CRE, would be absorbed “as applicable” by SENER. Nonetheless, the initiative does not clarify what should be understood by “as applicable,” thereby creating uncertainty as to the protection of the rights acquired by third parties with whom the CNH has entered into agreements, as well as regarding the powers to be exercised by SENER. • The elimination of the CNH could impair the rights of companies in the upstream market that successfully participated in the bidding Rounds for exploration and production fields, since the awarded contracts were entered into with such body. Likewise, it is this body that approves and supervises the exploration and extraction plans under which these companies operate. • The suppression of the CRE could likewise harm the hydrocarbons industry in Mexico, given that it would affect the holders and applicants of permits for midstream and downstream activities. This, since the CRE is the entity in charge of issuing and supervising such permits, so its elimination would delay the issuance of permits and the supervision activities that guarantee the proper functioning of the value and supply chain of the hydrocarbons industry in Mexico. As can be observed, the changes implemented by this Reform Initiative are systemic and fundamental. However, it is uncertain whether it will come into force. For this to happen, the Reform Initiative must be approved by a two-thirds vote of the individuals present in the Chamber of Deputies and the Senate, and must also be approved by the majority of the legislatures of the 31 States and Mexico City. Once approved, it must further be enacted by the executive branch and published in the Official Gazette of the Federation. Notwithstanding the foregoing, the legal strategy of the sectors and companies affected by this Reform Initiative must be analyzed in order to implement a preventive legal strategy against the adverse effects of such reform, including solutions under both domestic Mexican law and international law. In principle, it would be possible to challenge certain secondary provisions that may be issued in line with the reform, given that these could be contrary to various obligations of the Mexican State at the international level and, therefore, would be subject to a constitutionality review. Additionally, international dispute-resolution mechanisms, such as investment arbitration, could become an effective alternative to defend the interests of the participants in the country’s energy industry. If this Reform Initiative is approved and implemented as drafted, it is foreseeable that numerous foreign companies will assess the option of suing the Mexican State before international arbitration tribunals, demanding the payment of compensation for the damages caused by the violation of their international rights regarding the promotion and protection of foreign investment. From a preliminary analysis, if approved on the proposed terms, the Reform Initiative would affect developers, generators, qualified suppliers, end users under both the basic-supply and qualified schemes, qualified users, marketers, permit holders and consumer partners of the self-supply/cogeneration scheme, permit holders/contractors (independent production) and, in general, the participants of the energy industry, including the various sectors of society, the environment and, above all, free competition in the energy sector. Our experts are ready to provide the aforementioned advisory services. Please do not hesitate to contact us; our contact details are listed below: Edmond Grieger, Partner: +52 (55) 5258-1048 | egrieger@vwys.com.mx Alberto Córdoba, Partner: +52 (55) 5258-1016 | acordoba@vwys.com.mx Adrián Magallanes, Partner: +52 (55) 5258-1077 | amagallanes@vwys.com.mx Ariel Garfio, Counsel: +52 (55) 5258-1048 | agarfio@vwys.com.mx Rodrigo Barradas, Associate: +52 (55) 5258-1077 | rbarradas@vwys.com.mx Rebeca Márquez, Associate: +52 (55) 5258-1048 | rmarquez@vwys.com.mx Mariana Plowes, Associate: +52 (55) 5258-1048 | mplowes@vwys.com.mx Roberto Flores, Associate: +52 (55) 5258-1048 | rflores@vwys.com.mx Jorge Vázquez, Associate +52 (55) 5258-1059 | jvazquez@vwys.com.mx

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