Juan Arturo Dueñas
Senior Associate
Hogan Lovells
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Expert Contributor

New Hydrocarbons Law: Are More Arbitration Claims Ahead?

By Juan Arturo Dueñas | Fri, 05/14/2021 - 10:11

Numerous experts agree that the controversial reform of Mexico’s Electric Power Industry Law could lead to a flood of investment arbitrations because the reforms may impact foreign investors' interests in the energy sector. Now, the Mexican Federal Congress – the House of Representatives and Senate – have approved a new bill from President López Obrador related to the Mexican Hydrocarbons Law to amend the legal framework related to the country’s hydrocarbons sector. Will this new amendment follow the same path as Mexico's Electric Power Industry Law?

Mexico’s New Hydrocarbons Law

In the legislation noted above, the Mexican government seeks to repeal the Constitutional Energy Reform carried out in 2013.

On March 9, 2021, the reform to the Mexican Electric Power Industry Law was published in the Official Gazette, entering into force on March 10. At the moment, however, this law is not in force because several amparo lawsuits have been filed, enjoining the law’s entry into effect. Despite political pressure, Federal Judge Juan Pablo Gómez Fierro was the first to grant injunctions enjoining the law’s implementation. He ruled, prima facie, that the Electric Power Industry Law violated the Mexican Constitution and international treaties.

On March 26, the Executive Branch sent another bill seeking to amend the Mexican Hydrocarbons Law. On April 15, the House of Representatives passed the bill and on April 22, the bill was approved by the Senate. The new amendments to the Mexican Hydrocarbons Law were published on May 4 in the Official Gazette and entered into force on May 5.

The Hydrocarbons Law reform focuses on midstream and downstream oil and gas transportation and storage and turning crude oil and natural gas into finished products and permits granted by the Energy Regulatory Commission (CRE) and the Energy Ministry (SENER). The current reforms do not impact the upstream sector.

The most concerning aspects of the reform are the changes to Articles 51 and 57, as well as the incorporation of a new Article 59 Bis. In brief, the amendment proposes that (i) in order to obtain operation permits, hydrocarbon investors must provide evidence that they have storage capacity; (ii) authorities (CRE and SENER) can suspend permits and allow state-owned enterprises to take over the administration and operation of the permit holder; and (iii) both CRE and SENER can suspend and even revoke permits granted to private companies, arguing a threat to “national security,” "energy safety," or “national economy,” and temporarily take over private operations, including the power to use permit holder’s employees.

Indeed, the adverse implications of these amendments have been flagged by several authorities, including the Federal Economic Competition Commission (COFECE), which recommended on April 12 that Congress not approve the reform bill, as it would severely harm competition in the Mexican market. COFECE reasons were as follows:

  1. The law grants SENER and CRE broad discretion to suspend permits in cases they consider to be an imminent danger for "national or energy security, or for the national economy."
  2. SENER’s requirement for prior verification of certain storage capacity would reduce the number of energy industry competitors.

Moreover, according to COFECE’s chairwoman, Alejandra Palacios, Mexico’s new hydrocarbons law also eliminates the “asymmetric regulation” established to limit the formerly state-owned company’s dominant position in the market. Mexico´s formerly state-owned company is still the main supplier in the Mexican wholesale energy market, supplying 83 percent of gas and 73 percent of diesel in 2020. Therefore, these amendments would negatively harm competition and would likely cause price increases of final energy products.

The Electric Power Industry Law and the Hydrocarbons Law amendments are an attempt to wrestle back public control of formerly state-owned companies. The enactment of those laws could impair investor rights in accordance with several international investment treaties. 

Investment Protections (UMSCA, TPP, BITs)

Mexico is part of more than 50 investment treaties, inter alia, (i) the United States-Mexico-Canada Agreement (UMSCA), (ii) The Trans-Pacific Partnership (TPP) and several Bilateral Investment Treaties (BITs) with the UK, Spain, Germany and Italy. Under these treaties, Mexico’s new energy legislation may cause a breach of certain investment provisions and trigger investment arbitrations against Mexico.

Investment arbitral tribunals may find that Mexico’s new energy legislation constitutes a breach of, for example, the Fair and Equitable Treatment (FET) provisions, since the amendment (i) may constitute a frustration of the legitimate expectations of investors, (ii) be deemed a deliberate repudiation of the principles on which the hydrocarbons legal framework was based, (iii) the action taken by the government, for example, the suspension of permits, could be deemed arbitrary, disproportionate or unreasonable, and (iv) could evidence a lack of transparency and bad faith.

Similarly, aggrieved foreign investors may argue that this statutory and regulatory reform breaches FET because it could deliberately repudiate constitutional principles of free competition, and it could be deemed arbitrary because it unjustifiably suspends and revokes holder permits.

In addition, under the National Treatment Standard (NTS), Mexico must extend to foreign investors treatment that is no less favorable than the treatment that it accords to domestic investors in like circumstances. The National Treatment Standard seeks to ensure a degree of competitive equality between national and foreign investors. Aggrieved foreign investors may argue that Mexico breaches the NTS by granting many prerogatives to formerly state-owned enterprises.

Indirect expropriation involves a governmental measure, whether administrative or legislative, that deprives the owner of an investment's substantial benefits but need not involve a direct takeover of the investment. These reforms impact the value of the permit holder’s investment as the permits can be unilaterally suspended or even revoked, and thus, aggrieved investors may consider filing claims under this standard.

Chapter 14 of the UMSCA addresses Mexico’s obligation regarding foreign investment, and includes the right of investors to submit claims to arbitration against the state that has violated its obligations and by doing so, has affected its investment. Likewise, the BITs signed and ratified by Mexico also include the right of investors to submit claims to arbitration.

Although the UMSCA entered into force on July 1, 2020, regarding certain investments made prior to this date, aggrieved investors may consider filing claims against Mexico until July 1, 2023 (the transition period between NAFTA and UMSCA). Likewise, Canadian investment claims against Mexico should be brought under the TPP and not the UMSCA, unless it is within the transition period under NAFTA. To date, foreign investors have filed more than 30 investment arbitrations against Mexico and, in fact, the last arbitration was filed by a Canadian corporation on March 31, 2021, invoking NAFTA investment protections.

The Electric Power Industry Law and the Hydrocarbons Law amendments may have similar outcomes. The Hydrocarbons Law amendments may impact foreign investors' interests in the hydrocarbons sector and could trigger investment arbitrations proceedings.  Challenges in the Mexican energy sector have increased and it could be reasonably expected to see more state-investor arbitrations due to the enactment of these laws.

Acknowledgements: The author gratefully acknowledges the support and contributions of Hogan Lovells Mexico City Office Managing Partner Omar Guerrero R. and law clerk Fernanda Serrano to this article.

Photo by:   Juan Arturo Dueñas