S&P Global Ratings expects smooth contract renewals for most Brazilian power distribution concessions this year, supporting the sector's credit quality. On Feb. 25, 2025, Brazil's electricity regulator, Agencia Nacional de Energia Eletrica (ANEEL), approved the terms for 30-year renewals for 19 expiring concession contracts, representing approximately 62% of the country's power distribution market.

Table 1

The new contracts do not require grant fee payments, easing financial pressure on distribution companies' credit metrics. In addition, these contracts will allow more frequent recognition of investments into the asset base within the tariff cycle, in contrast with the current four- to five-year tariff review period--though ANEEL still needs to issue regulations to formalize the specifics. This increased flexibility means tariff bills will more quickly reflect higher investments by distribution companies, helping offset the financial impact of meeting stricter service quality and client satisfaction requirements.

While the new contracts will require higher investments to address evolving dynamics in Brazil's energy sector--including extreme weather events, the challenges of decentralized generation, energy efficiency demands, and the liberalization of the electricity market--distributors have already been increasing their investments and improving service quality in recent years.

Many groups have already updated their capital expenditure plans to address stricter requirements, which we have incorporated in our ratings. In 2025-2027, we expect the largest integrated electric groups that we rate in Brazil (CPFL, Enel Brasil, Energisa, Equatorial, and Neoenergia) to invest roughly Brazilian real (R$) 90 billion in power distribution, up about 15% compared with 2022-2024.

As a result, we believe electricity groups have the capacity to meet their investment requirements without compromising their credit quality. Their extensive experience in managing concessions, operational scale, and strong access to capital markets--along with financial support from larger groups in some cases--position them well to adapt to the sector's evolving challenges.

Next Steps

We expect the renewals to conclude by the third quarter of 2025. Now that all 19 concessions expressly requested renewals at the end of March 2025, next steps include the following:

• ANEEL will have 60 days to send recommendations to the Ministry of Mines and Energy (MME) with evaluations of compliance with service quality metrics and with economic and financial requirements.
• The MME will have then 30 days to decide and call for the signing of the contracts.
• Finally, the distributors will have up to 60 days from the call to sign the new concession contracts.

Exclusion Of Grant Fees Will Support Distributors' Flexibility

In line with Decree 12,068, enacted by the federal government in June 2024, the renewal terms will exclude the payment of grant fees. That supports distributors' financial flexibility, especially for those with expiring concessions in the next few years. Many of these companies had been issuing shorter-term debt due to the imminent expiration of their concession contracts or, in many cases, had issued debt with suspensive clauses, meaning their holding companies were required to provide guarantees if the concession was not renewed.

The extension of concession contracts for 30 years beyond their original maturity dates will provide distribution companies with greater access to long-term financing, enhancing their ability to refinance at more favorable terms.

Most Distributors Will Meet Renewal Requirements

To renew their concession contracts, distributors will need to comply with both service quality metrics measured by DEC and FEC (duration and frequency of service interruptions) and economic and financial regulatory requirements as defined in the current contracts. All distributors were compliant with the regulatory DEC and FEC metrics as of December 2024, according to ANEEL.

While we expect renewals to be smooth in most cases, some distributors face specific complexities, including Light SESA, which is currently undergoing reorganization. The renewal of the distribution concession that serves the Rio de Janeiro metropolitan area hinges on the completion of Light SESA's debt restructuring process, given the company is not in compliance with mandatory financial and economic requirements.

Additionally, Light SESA operates in a region with high violence, and concessions that encompass such Areas of Severe Operational Restriction should have specific regulatory treatments for quality indicators and energy losses under the new contracts, given the high complexity in combating delinquency and energy theft. Similarly, we expect Enel Rio will be subject to specific terms, especially regarding energy losses, given it also operates in Rio de Janeiro.

Quality Standards Will Tighten

The final terms of the contracts will include stricter standards that emphasize quality indicators and customer satisfaction. Measurement of the concession-wide average DEC and FEC will continue, but with new minimum regulatory limits by subregion within each concession. These new requirements should address the growing importance of quickly restoring grid systems after extreme weather events, following recent extensive interruptions and significant hits to customers' grids.

Noncompliance with the new terms could lead to additional penalties, compensation to consumers for poor quality of the distribution service, and even the termination of the concession if the noncompliance lasts for two consecutive years. Hence we expect distributors to increase investments once minimum regulatory limits by subregion become obligatory under the new contracts.

At the same time, since 2022, ANEEL has already been monitoring compliance with these quality indicators at the subregional level to ensure distributors invest appropriately within the concession, including in less densely populated locations, like rural areas, where distribution companies have reported worse quality indicators.

Currently, if a concession fails to meet the DEC and FEC requirements in at least 80% of its subregions, the distributor may face penalties during its annual tariff adjustment. This has already led many distributors to increase their investments in recent years, while we have observed an improvement in each distributor's quality metric (see table 2). As such, we don't expect investments in distribution to significantly exceed what we already anticipated to meet the new requirements, and consequently, we expect the majority of the groups to absorb those higher investments; hence, credit metrics should remain relatively stable.

Table 2

Among the rated distributors, CPFL led in service quality metrics through 2024, achieving an average of 84% compliance with DEC by subregion across its maturing concessions. Energisa, Neoenergia, and Equatorial followed with averages of 79%, 78%, and 72%, respectively.

Equatorial Maranhao's quality metrics deteriorated in 2021 due to adverse weather conditions and reduced investments during the height of the COVID-19 pandemic. Since then, the company has expanded its maintenance staff and increased investments to strengthen the reliability and redundancy of its distribution networks, which supported an improvement of 16 hours (or 54%) in its DEC metric for 2024 relative to 2021.

Light's and Enel's subsidiaries in Brazil are performing below the others, with compliance rates of 66% and 59%, respectively, highlighting the need for additional investments in their grids to meet the required standards.

Once the new contracts are in place, we will closely monitor quality metrics on a subregional basis, and we may reassess operational scores if service standards are not met.

We believe distribution companies usually find it easier to handle interruptions by making quick repairs or using strategies like network redundancy and load balancing, which helps improve FEC performance. On the other hand, to shorten the length of outages (measured by DEC), companies need to invest more in infrastructure, like better network maintenance, quicker response times, and technologies that help restore service faster.

Other New Concession Terms

New adjustment index

In line with Decree 12,068 and the 2015-2017 concession renewals, the new contracts will use the IPCA consumer price index to adjust costs for which distributors are responsible, such as employee salaries. This index replaces the IGP-M inflation index used in the initial concession contracts, which added more volatility to electricity bills because it was influenced by fluctuations in the U.S. dollar exchange rate. The change will therefore improve the predictability of rate adjustments, given the majority of regulated power purchase contracts are also adjusted by IPCA.

Fine payment obligations

Although the term is not included in the renewal contracts, ANEEL has recommended to the MME that it include as a condition precedent that distributors settle any outstanding fines in their rate adjustment processes after the signing of the new contracts. This amounts to approximately R$945 million, of which R$600 million is attributed to Enel Brasil's concessions. If MME accepts this condition precedent, we expect the rated distributors will have sufficient liquidity to absorb the payment of these fines without weakening their creditworthiness, considering the relatively low penalty rate compared with the entities' cash flows.

Preserving concession terms

Distributors renewing their contracts in anticipation will keep their current concession expiration dates, maintaining the original tenor of the contracts. Hence, the renewals will add 30 years to the existing due dates. Our base case already incorporated the extension of the distribution concessions, considering the capital and labor intensity inherent to the power distribution business. In our view, a reauction process would be challenging because it could lead to disruptions in service continuity and customer service that current operators have established.

Flexibility in rate review methodology

The new concession contracts give distributors the option to choose different rate review methodologies, such as a revenue cap or hybrid model, which ANEEL will regulate. A revenue cap provides financial security but limits profit potential. Currently, distributors use a price cap model, which sets a maximum tariff based on inflation and productivity factors, encouraging cost reduction and efficiency.

While the price cap model should remain in place for at least the first tariff cycle under the new contracts, we believe the flexibility to adopt alternative methodologies would be a better fit for mature concessions that have less expansionary capital expenditure requirements.