|Item 17 Item 18|
|Item 1. Identity of Directors, Senior Management and Advisers|
|Item 2. Offer Statistics and Expected Timetable|
|Item 3. Key Information|
|Item 4. Information on The Company|
|Item 4A. Unresolved Staff Comments|
|Item 5. Operating and Financial Review and Prospects|
|Item 6. Directors, Senior Management and Employees|
|Item 7. Major Shareholders and Related Party Transactions|
|Item 8. Financial Information|
|Item 9. The Offer and Listing|
|Item 10. Additional Information|
|Item 11. Quantitative and Qualitative Disclosures About Market Risk|
|Item 12. Description of Securities Other Than Equity Securities|
|Item 13. Defaults, Dividend Arrearages and Delinquencies|
|Item 14. Material Modifications To The Rights of Security Holders and Use of Proceeds|
|Item 15. Controls and Procedures|
|Item 16A. Audit Committee Financial Expert|
|Item 16B. Code of Ethics|
|Item 16C. Principal Accountant Fees and Services|
|Item 16D. Exemptions From The Listing Standards for Audit Committees|
|Item 16E. Purchases of Equity Securities By The Issuer and Affiliated Purchasers|
|Item 16F. Change in Registrant's Certifying Accountant|
|Item 16G.Corporate Governance|
|Item 17. Financial Statements|
|Item 18. Financial Statements|
|Item 19. Exhibits|
|Balance Sheet||Income Statement||Cash Flow|
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
for the fiscal year ended December 31, 2009
Commission File Number 1-32297
CPFL ENERGIA S.A.
(Exact name of registrant as specified in its charter)
|CPFL ENERGY INCORPORATED||The Federative Republic of Brazil|
|(Translation of registrants name into English)||(Jurisdiction of incorporation or organization)|
Rua Gomes de Carvalho, 1,510, 14° andar - Cj 1402
CEP 04547-005 Vila Olímpia - São Paulo, São Paulo
Federative Republic of Brazil
+55 11 3841-8507
(Address of principal executive offices)
Wilson Ferreira Junior
+55 19 3756 8704 - email@example.com
Rodovia Campinas Mogi Mirim, km 2,5 – Campinas, São Paulo - 13088 900
Federative Republic of Brazil
(Name, telephone, e-mail and/or facsimile
number and address of company contact person)
Securities registered or to be registered pursuant to Section 12(b) of the Act:
|Title of each class:||Name of each exchange on which registered:|
|Common Shares, without par value*|
|American Depositary Shares (as evidenced by American||New York Stock Exchange|
|Depositary Receipts), each representing 3 Common Shares|
*Not for trading, but only in connection with the registration of American Depositary Shares, pursuant to the requirements of the Securities and Exchange Commission.
Securities registered or to be registered pursuant to Section 12(g) of the Act: None
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None
As of December 31, 2009, there were 479,910,938 common shares, without par value, outstanding
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act (Check one):
|Large Accelerated Filer||Accelerated Filer||Non-accelerated Filer|
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
If Other has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.
|Item 17||Item 18|
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
TABLE OF CONTENTS
|CERTAIN TERMS AND CONVENTIONS||1|
|PRESENTATION OF FINANCIAL INFORMATION||1|
|ITEM 1.||Identity of Directors, Senior Management and Advisers||2|
|ITEM 2.||Offer Statistics and Expected Timetable||2|
|ITEM 3.||Key Information||2|
|Selected Financial and Operating Data||2|
|Risks Relating to Our Operations and the Brazilian Power Industry||6|
|Risks Relating to Brazil||11|
|Risks Relating to the ADSs and Our Common Shares||13|
|ITEM 4.||Information on the Company||14|
|Our Service Territory||19|
|Purchases of Electricity||22|
|Consumers and Tariffs||23|
|Generation of Electricity||25|
|Electricity Commercialization and Services||31|
|Our Concessions and Authorizations||32|
|The Brazilian Power Industry||35|
|Principal Regulatory Authorities||35|
|Concessions and Authorizations||36|
|The New Industry Model Law||38|
|Tariffs for the Use of the Distribution and Transmission Systems||42|
|Government Incentives to the Energy Sector||44|
|Energy Reallocation Mechanism||46|
|ITEM 4A.||Unresolved Staff Comments||46|
|ITEM 5.||Operating and Financial Review and Prospects||46|
|Results of Operations—2009 compared to 2008||52|
|Results of Operations—2008 compared to 2007||55|
|Liquidity and Capital Resources||57|
|Financial and Operating Covenants||60|
|Research and Development and Electricity Efficiency Programs||61|
|Off-Balance Sheet Arrangements||61|
|U.S. GAAP Reconciliation||62|
|Use of Estimates in Certain Accounting Policies||63|
|ITEM 6.||Directors, Senior Management and Employees||66|
|Directors and Senior Management||66|
|Indemnification of Officers and Directors||74|
|ITEM 7.||Major Shareholders and Related Party Transactions||75|
|Related Party Transactions||77|
|ITEM 8.||Financial Information||78|
|Consolidated Statements and Other Financial Information||78|
|ITEM 9.||The Offer and Listing||79|
|Corporate Governance Practices||80|
|ITEM 10.||Additional Information||80|
|Memorandum and Articles of Incorporation||80|
|Allocation of Net Income and Distribution of Dividends||80|
|Voting Rights of ADS Holders||86|
|Exchange Controls and Other Limitations Affecting Security Holders||86|
|Brazilian Tax Considerations||87|
|U.S. Federal Income Tax Consequences||90|
|Documents on Display||95|
|ITEM 11.||Quantitative and Qualitative Disclosures about Market Risk||95|
|ITEM 12.||Description of Securities Other than Equity Securities||96|
|ITEM 13.||Defaults, Dividend Arrearages and Delinquencies||97|
|ITEM 14.||Material Modifications to the Rights of Security Holders and Use of Proceeds||97|
|ITEM 15.||Controls and Procedures||97|
|Internal Control over Financial Reporting||97|
|Report of Independent Registered Public Accounting Firm of Internal Control Over FinancialReporting||98|
|ITEM 16A.||Audit Committee Financial Expert||99|
|ITEM 16B.||Code of Ethics||99|
|ITEM 16C.||Principal Accountant Fees and Services||99|
|Audit and Non-Audit Fees||99|
|Audit Committee Approval Policies and Procedures||100|
|ITEM 16D.||Exemptions from the Listing Standards for Audit Committees||100|
|ITEM 16E.||Purchases of Equity Securities by the Issuer and Affiliated Purchasers||100|
|ITEM 16F.||Change in Registrant’s Certifying Accountant.||100|
|ITEM 16G.||Corporate Governance.||100|
|ITEM 17.||Financial Statements||103|
|ITEM 18.||Financial Statements||103|
|GLOSSARY OF TERMS||104|
This annual report contains information that constitutes forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995. Many of the forward-looking statements contained in this annual report can be identified by the use of forward-looking words, such as believe, may, aim, estimate, continue, anticipate, will, intend, expect and potential, among others. Forward-looking statements include information concerning our possible or assumed future results of operations, business strategies, financing plans, competitive position, industry environment, potential growth opportunities, the effects of future regulation and the effects of competition. Those statements appear in a number of places in this annual report, principally under the captions Item 3. Key InformationRisk Factors, Item 4. Information on the Company and Item 5. Operating and Financial Review and Prospects. We have based these forward-looking statements largely on our current beliefs, expectations and projections about future events and financial trends affecting our business. Many important factors, in addition to those discussed elsewhere in this annual report, could cause our actual results to differ substantially from those anticipated in our forward-looking statements. These factors include:
Forward-looking statements speak only as of the date they were made, and we undertake no obligation to update or to revise them after we distribute this annual report because of new information, future events or other factors. In light of these limitations, you should not place undue reliance on forward-looking statements contained in this annual report.
CERTAIN TERMS AND CONVENTIONS
A glossary of electricity industry terms is included in this annual report, beginning on page 104.
PRESENTATION OF FINANCIAL INFORMATION
The audited consolidated financial statements as of December 31, 2009 and 2008 and for each of the three years in the period ended December 31, 2009, included in this annual report have been prepared in accordance with generally accepted accounting principles in Brazil (Brazilian Accounting Principles), which differ in certain respects from generally accepted accounting principles in the United States (U.S. GAAP). Note 35 to our audited consolidated financial statements provides a description of the principal differences between Brazilian Accounting Principles and U.S. GAAP, as they relate to us, and a reconciliation to U.S. GAAP of net income and shareholders equity.
We have translated some of the real amounts contained in this annual report into U.S. dollars. The rate used to translate such amounts was R$1.741 to US$1.00, which was the rate for the selling of U.S. dollars in effect as of December 31, 2009 as reported by the Central Bank of Brazil, or Central Bank. The U.S. dollar equivalent information presented in this annual report is provided solely for convenience of investors and should not be construed as implying that the real amounts represent, or could have been or could be converted into, U.S. dollars at the above rate. See Item 3. Key InformationExchange Rates for more information regarding the Brazilian foreign exchange rate system and historical data on the exchange rate between reais into U.S. dollars.
ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE
ITEM 3. KEY INFORMATION
Selected Financial and Operating Data
The following table presents our selected historical financial and operating data. You should read the following information in conjunction with our audited consolidated financial statements and related notes, and the information under Item 5. Operating and Financial Review and Prospects and Item 8. Financial Information, included elsewhere in this annual report. The financial data at December 31, 2009 and 2008 and for the years ended December 31, 2009, 2008 and 2007 are derived from our audited consolidated financial statements included elsewhere in this annual report.
The financial information included in this annual report has been presented in accordance with Brazilian Accounting Principles, which differ in certain respects from U.S. GAAP. Note 35 to our audited consolidated financial statements provides a description of the principal differences between Brazilian Accounting Principles and U.S. GAAP, as they relate to us, and a reconciliation to U.S. GAAP of net income and shareholders equity.
Brazilian Accounting Principles have been undergoing rapid change pursuant to legislation adopted late in 2007. Changes that took effect in 2008 have been given effect in our audited consolidated financial statements, and in the selected financial data presented below, as of and for each of the years ended December 31, 2009, 2008 and 2007. During the year ended December 31, 2009, the Accounting Pronouncement Committee (Comitê de Pronunciamentos Contábeis), or CPC, issued and the CVM approved a series of accounting standards for the convergence of the Brazilian GAAP and the International Financial Reporting Standards (IFRS). These new standards apply as of and for the year ended December 31, 2010 and to the comparative financial information for the year ended December 31, 2009. As from 2010, Brazilian companies are required by Brazilian authorities to prepare their respective financial statements in accordance with IFRS.
Changes to reflect adoption of these new accounting pronouncements have not been given effect in the selected financial data as of and for the years ended December 31, 2006 and 2005, which are accordingly not comparable in certain limited respects.
STATEMENT OF OPERATIONS DATA
|For the year ended December 31,|
|(in millions, except per share and per ADS data)|
|Brazilian Accounting Principles|
|Operating revenues||US$ 9,013||R$ 15,693||R$ 14,372||R$ 14,207||R$ 12,227||R$ 10,907|
|Net operating revenues||6,068||10,566||9,706||9,410||7,912||6,992|
|Electricity purchased for resale||3,078||5,360||4,788||4,052||3,419||3,175|
|Electricity network usage charges||673||1,171||904||703||774||757|
|Post-retirement benefit obligation||2||4||(84)||(47)||(7)||90|
|Depreciation and amortization||203||353||340||341||297||273|
|Services rendered to third parties||3||5||7||6||21||12|
|Sales and marketing||147||255||246||428||244||197|
|General and administrative||220||384||385||354||315||267|
|Amortization of intangible assets related to concessions||107||187||192||176||152||126|
|Financial expense, net||(181)||(316)||(414)||(375)||(151)||(212)|
|Non-operating income (expense), net||||||||||50||(1)|
|Income and social contribution taxes||(336)||(584)||(636)||(827)||(734)||(336)|
|Net income before extraordinary item and noncontrolling interest||746||1,301||1,285||1,646||1,437||1,094|
|Extraordinary item, net of taxes(1)||||||||||(33)||(33)|
|Net income||US$ 738||R$ 1,286||R$ 1,276||R$ 1,641||R$ 1,404||R$ 1,021|
|Net income per share, before extraordinary item and noncontrolling interest||1.56||2.71||2.68||3.43||3.00||2.28|
|Net income per share||1.54||2.68||2.66||3.42||2.93||2.13|
|Net income per ADS, before extraordinary item and noncontrolling interest||4.67||8.13||8.04||10.29||8.99||6.84|
|Net income per ADS||4.62||8.04||7.97||10.26||8.78||6.39|
|Number of common shares outstanding at year-end||480||480||480||480||480||480|
|Dividends declared per share (2)||1.47||2.56||2.52||3.25||2.78||1.87|
|Dividends declared per ADS (2)||4.40||7.67||7.55||9.76||8.34||5.62|
|Net operating revenues||5,866||10,213||9,390||9,181||7,316||6,053|
|Net income per share basic||1.54||2.68||2.58||3.49||2.61||2.42|
|Net income per ADS basic||4.62||8.05||7.73||10.48||7.83||7.26|
|Net income per share diluted||1.54||2.68||2.58||3.49||2.61||2.39|
|Net income per ADS diluted||4.62||8.05||7.73||10.48||7.83||7.18|
|Weighted average number of shares outstanding||480||480||480||480||480||458|
BALANCE SHEET DATA
|For the year ended December 31,|
|Brazilian Accounting Principles|
|Cash and cash equivalents||US$ 846||R$ 1,473||R$ 738||R$ 1,106||R$ 540||R$ 679|
|Other current assets||535||931||1,253||1,152||1,031||1,288|
|Total current assets||2,438||4,244||3,712||4,076||3,696||3,770|
|Property, plant and equipment||4,300||7,487||6,614||5,984||6,237||5,289|
|Other non-current assets||1,354||2,359||2,930||2,467||1,144||1,757|
|Total non-current assets||7,251||12,626||12,531||11,522||10,353||10,081|
|Short-term debt (3)||764||1,331||1,288||1,166||964||1,651|
|Other current liabilities||1,869||3,254||2,954||3,051||2,821||2,488|
|Total current liabilities||2,633||4,585||4,242||4,217||3,785||4,139|
|Other long-term liabilities||449||782||956||1,077||1,116||1,522|
|Total long-term liabilities||4,087||7,117||6,894||6,342||5,395||4,916|
|Total liabilities and shareholders equity||9,689||16,870||16,243||15,598||14,049||13,851|
|Total assets||US$ 9,320||R$ 16,227||R$ 16,112||R$ 15,532||R$ 14,435||R$ 13,938|
|For the year ended December 31,|
|Energy sold (in GWh):|
|Total energy sold to Final Consumers||41,048||41,150||40,354||37,627||36,160|
|Electricity sales to wholesalers (in GWh)||12,925||9,551||8,731||7,461||6,160|
|Total consumers (in thousands)(4)||6,567||6,425||6,257||5,749||5,610|
|Installed capacity (in MW)||1,737||1,704||1,588||1,072||915|
|Assured energy (in GWh)||7,485||7,134||6,698||4,962||4,214|
|Energy generated (in GWh)||5,984||6,659||6,382||3,407||3,126|
The elimination of charges for periods subsequent to 2006 reflects the initial effect of a change in Brazilian Accounting Principles for post- retirement benefit plans, net of taxes. This item does not qualify as an extraordinary item under U.S. GAAP.
Dividends declared represents the total amount of dividends declared from net income for each period presented.
Short-term debt and long-term debt include derivative and accrued interest.
Represents active consumers (meaning consumers who are connected to the distribution network), rather than consumers invoiced at period- end.
The Central Bank allows the real/U.S. dollar exchange rate to float freely, and it has intervened occasionally to control unstable movements in foreign exchange rates. We cannot predict whether the Central Bank or the Brazilian government will continue to let the real float freely or will intervene in the exchange rate market through a currency band system or otherwise. The real may substantially depreciate or appreciate against the U.S. dollar. For more information on these risks, see Item 3. Additional InformationRisk FactorsRisks Relating to Brazil.
The following table provides information on the selling exchange rate, expressed in reais per U.S. dollar (R$/US$), for the periods indicated.
|Period-end||Average for period(1)||Low||High|
|(reais per U.S. dollar)|
|December 31, 2005||2.341||2.412||2.163||2.762|
|December 31, 2006||2.138||2.168||2.059||2.371|
|December 31, 2007||1.771||1.930||1.733||2.156|
|December 31, 2008||2.337||1.833||1.559||2.500|
|December 31, 2009||1.741||1.990||1.702||2.422|
|March 2010 (through March 26, 2010)||1.823||1.785||1.764||1.823|
Year-end figures represent the average of the month-end selling exchange rates during the relevant period. The figures provided for months in 2009 and 2010, as well as for the month of March up to and including March 26, 2010, represent the average of the selling exchange rates at the close of trading on each business day during such period.
Risks Relating to Our Operations and the Brazilian Power Industry
We are subject to comprehensive regulation of our business, which fundamentally affects our financial performance.
Our business is subject to extensive regulation by various Brazilian regulatory authorities, particularly the National Electric Energy Agency, Agência Nacional de Energia Elétrica (ANEEL). ANEEL regulates and oversees various aspects of our business and establishes our tariffs. If we are obliged by ANEEL to make additional and unexpected capital investments and are not allowed to adjust our tariffs accordingly, or if ANEEL modifies the regulations related to such adjustment, we may be adversely affected.
In addition, the implementation of our strategy for growth, as well as the ordinary carrying out of our business may be adversely affected by governmental actions such as changes to current legislation, the termination of federal and state concession programs, creation of more rigid criteria for qualification in public energy auctions, or a delay in the revision and implementation of new annual tariffs.
If we are required to conduct our business in a manner substantially different from our current operations as a result of regulatory changes, our operations and financial results may be adversely affected.
The regulatory framework under which we operate is subject to legal challenge.
The Brazilian government implemented fundamental changes in regulation of the power industry under 2004 legislation known as the Lei do Novo Modelo do Setor Elétrico, or New Industry Model Law. Challenges to the constitutionality of the New Industry Model Law are still pending before the Brazilian Supreme Court. If all or part of the New Industry Model Law were held to be unconstitutional, there would be uncertain consequences for the validity of existing regulation and the further development of the regulatory framework. The outcome of the legal proceedings is difficult to predict, but it could have an adverse impact on the entire energy sector, including our business and results of operations.
We are uncertain as to the renewal of our concessions.
We carry out our generation and distribution activities pursuant to concession agreements entered into with the Brazilian Federal Government. Our concessions range in duration from 16 to 35 years, with the first expiration date in 2015. Five of our distribution subsidiaries have concessions that expire in July 2015, with options to renew for an additional 20 years. In 2009, these five distribution subsidiaries represented 5.3% of sales of our distribution companies and 5.5% of the energy distributed by our distribution companies.
The Brazilian constitution requires that all concessions relating to public services be awarded through a bidding process. Under laws and regulations specific to the electric sector, the Federal Government may renew existing concessions for additional periods of up to 30 years without a bidding process, provided that the concessionaire has met minimum performance standards and that the proposal is otherwise acceptable to the Federal Government. The Federal Government has considerable discretion under the Concessions Law and the concession contracts with respect to renewal of concessions. Moreover, there is no extensive history of administrative renewal practice. As a result, we cannot assure you that our concessions will be renewed at all, or that they will be renewed on the same terms.
The tariffs that we charge for sales of electricity to captive consumers are determined by ANEEL pursuant to concession agreements with the Brazilian government, so our operating revenues could be adversely affected if ANEEL makes decisions relating to our tariffs that are not favorable to us.
ANEEL has substantial discretion to establish the tariff rates our distribution companies charge our consumers. Our tariffs are determined pursuant to concession agreements with the Brazilian Federal Government, and in accordance with ANEELs regulations and decisions.
Our concession agreements and the Brazilian law establish a mechanism that permits three types of tariff adjustments: (i) the annual adjustment (reajuste anual), (ii) the periodic revision (revisão periódica) and (iii) the extraordinary revision (revisão extraordinária). We are entitled to apply each year for the annual adjustment, which is designed to offset some effects of inflation on tariffs and pass through to consumers certain changes in our cost structure that are beyond our control, such as the cost of electricity we purchase from certain sources and certain regulatory charges, including charges for the use of transmission and distribution facilities. In addition, ANEEL carries out a periodic revision every four or five years that is aimed at identifying variations in our costs as well as setting a factor based on our operational efficiency that will be applied against the index of our ongoing annual tariff adjustments, the objective of which is to share any related gains with our consumers. We are also subject to extraordinary revision of our tariffs that may affect (negatively or positively) our results of operations or financial position.
We cannot be sure if ANEEL will establish tariffs at rates that are favorable to us, due to changes in the methods in calculating the periodic revision adjustments. In addition, to the extent that any of these adjustments are not granted by ANEEL in a timely manner, our financial condition and results of operations may be adversely affected.
We could be penalized by ANEEL for failing to comply with the terms of our concession agreements, which could result in fines, other penalties and, depending on the gravity of the non-compliance, in our concessions being terminated.
ANEEL may impose penalties on us in the event that we fail to comply with any provision of our concession agreements. Depending on the gravity of the non-compliance, these penalties could include the following:
In addition, the Brazilian government has the power to terminate any of our concessions by means of expropriation for reasons related to the public interest.
We are currently in compliance with all of the material terms of our concession agreements. However, we cannot assure you that we will not be penalized by ANEEL for breaching our concession agreements or that our concessions will not be terminated in the future. The compensation to which we are entitled upon termination of our concessions may not be sufficient for us to realize the full value of certain assets. If any of our concession agreements is terminated for reasons attributable to us, the effective amount of compensation by the granting authorities could be materially reduced through the imposition of fines or other penalties. Accordingly, the imposition of fines or penalties on us or the termination of any of our concessions could have a material adverse effect on our financial condition and results of operations.
We may not be able to fully pass through the costs of our electricity purchases and, to meet demand, we could be forced to enter into short-term agreements to purchase electricity at prices substantially higher than under our long-term purchase agreements.
Under the New Industry Model Law, an electricity distributor must contract in advance, through public bids, for 100% of its forecasted electricity needs for its distribution concession areas. Over- or under-forecasting demand can have adverse consequences. If our forecasted demand is incorrect and we purchase less or more electricity than we need, we may be prevented from fully passing through the costs of our electricity purchases and we may also be forced to enter into short-term agreements to purchase electricity at prices substantially higher than under our long-term purchase agreements. For instance, the New Industry Model Law provides, among other restrictions, that if our forecasts fall significantly short of actual electricity demand, we may be forced to make up the shortfall with shorter term electricity purchase agreements. If our acquisitions of electricity in the public auctions are above the Annual Reference Value (Valor Anual de Referência) established by the Brazilian government, we may not be able to fully pass through the costs of our electricity purchases. Our forecasted electricity demand may prove inaccurate, including as a result of consumers moving between the different markets (regulated and free). If there are significant variations between our electricity needs and the volume of our electricity purchases, our results of operations may be adversely affected. See Item 4. Information on the CompanyThe Brazilian Power IndustryThe New Industry Model Law.
ANEEL may limit distributions that our regulated subsidiaries may make to us.
The amounts that our regulated subsidiaries may distribute to us in the form of dividends in any given fiscal year depend on such subsidiaries making a profit, as calculated in accordance with the Brazilian Corporation Law. Despite the significant cash flow generated by our regulated subsidiaries, their results are affected by depreciation and by the amortization of intangible assets arising from the acquisition of RGE and Semesa. As a result, this limitation may eventually prevent some portion of the cash generated by our regulated subsidiaries from being distributed to us as dividends.
We generate a significant portion of our operating revenues from consumers that qualify as Free Consumers, and that are allowed to seek alternative electricity suppliers. We may face other types of competition that could adversely affect our market share and revenues.
Within our concession areas, other electricity suppliers are permitted to compete with us in offering electricity to certain consumers that qualify as Free Consumers, to whom our distribution subsidiaries may supply electricity only at regulated tariffs. Such consumers qualified as Free Consumers may elect to opt out of our regulated distribution system upon the expiration of their contracts with us, by providing six months prior notice, or by providing a years prior notice if their contract has no fixed termination date. At December 31, 2009, we supplied energy to 68 consumers qualified as Free Consumers, which accounted for approximately 2.4% of our net operating revenues and approximately 3.7% of the total volume of electricity sold by our distributors during 2009. In addition, other consumers meeting certain criteria may become Free Consumers if they move to energy from renewable energy sources, such as small hydroelectric power plants or biomass. At December 31, 2009 we had a total of 1,622 of these consumers which accounted for approximately 13.3% of our net operating revenues and approximately 19.2% of the total volume of electricity sold by us during 2009. A decision by our consumers qualified as Free Consumers to become Free Consumers and purchase electricity from electricity suppliers serving Free Consumers located in our concession areas would adversely affect our market share and results of operations.
In addition, it is possible that our large industrial clients could be authorized by ANEEL to generate electric energy for self consumption or sale to other parties, in which case they may obtain an authorization or concession for the generation of electric power in a given area, which could adversely affect our results of operations.
Our operating results depend on prevailing hydrological conditions. The impact of an electricity shortage and related electricity rationing, as in 2001 and 2002, may have a material adverse effect on our business and results of operations.
We are dependent on the prevailing hydrological conditions in the geographic region in which we operate. In 2009, according to data from the National Electrical System Operator, Operador Nacional do Sistema Elétrico (ONS), more than 93.0% of Brazils electricity supply came from hydroelectric generation facilities. Our region is subject to unpredictable hydrological conditions, with non-cyclical deviations from average rainfall. The most recent period of low rainfall was between 2000 and 2001, when the Brazilian government instituted the Rationing Program, a program to reduce electricity consumption that was in effect from June 1, 2001 to February 28, 2002. The Rationing Program established limits for energy consumption for industrial, commercial and residential consumers, which ranged from a 15.0% to a 25.0% reduction in energy consumption, and lasted from June 2001 until February 2002. If Brazil experiences another electricity shortage, the Brazilian government may implement similar or other policies in the future to address the shortage that could have a material adverse effect on our financial condition and results of operations. A recurrence of poor hydrological conditions that result in a low supply of electricity to the Brazilian market could cause, among other things, the implementation of broad electricity conservation programs, including mandated reductions in electricity consumption. We cannot assure you that periods of severe or sustained below-average rainfall will not adversely affect our future financial results.
Construction, expansion and operation of our electricity generation and distribution facilities and equipment involve significant risks that could lead to lost revenues or increased expenses.
The construction, expansion and operation of facilities and equipment for the generation and distribution of electricity involves many risks, including:
If we experience these or other problems, we may not be able to generate and distribute electricity in amounts consistent with our projections, which may have an adverse effect on our financial condition and results of operations. We do not have insurance for many of these risks.
We are subject to environmental and health regulations that may become more stringent in the future and may result in increased liabilities and increased capital expenditures.
Our distribution and generation activities are subject to comprehensive federal and state legislation as well as supervision by Brazilian governmental agencies that are responsible for the implementation of environmental and health laws and policies. These agencies could take enforcement action against us for our failure to comply with their regulations. These actions could include, among other things, the imposition of fines and revocation of licenses. It is possible that enhanced environmental and health regulations will force us to allocate capital expenditures to compliance, and consequently, divert funds from planned investments. Such a diversion could have a material adverse effect on our financial condition and results of operations.
If we are unable to complete our proposed capital expenditure program in a timely manner, the operation and development of our business may be adversely affected.
We plan to invest approximately R$1,445 million in our generation activities, and R$4,608 million in our distribution activities during the period from 2010 through 2014. Our ability to carry out this capital expenditure program depends on a variety of factors, including our ability to charge adequate tariffs for our services, our access to domestic and international capital markets and a variety of operating, regulatory and other contingencies. We cannot be certain that we will have the financial resources to complete our proposed capital expenditure program, and failure to do so could have a material adverse effect on the operation and development of our business.
We are strictly liable for any damages resulting from inadequate provision of electricity services, and our contracted insurance policies may not fully cover such damages.
Under Brazilian law we are strictly liable for direct and indirect damages resulting from the inadequate provision of electricity distribution services. In addition, our distribution facilities may, together with our generation utilities, be held liable for damages caused to others as a result of interruptions or disturbances arising from the generation, transmission or distribution systems, whenever these interruptions or disturbances are not attributed to an identifiable member of the ONS. We cannot assure you that our contracted insurance policies will fully cover damages resulting from inadequate rendering of electricity services which may have an adverse effect on us.
We may not be able to create the expected benefits and return on investments from the new businesses we recently entered into.
We have recently entered into a number of new energy generation businesses (wind, thermoelectric and biomass energy) with substantial capital investments. We have no operating history and track record in any of these industries and may not be able to create the expected synergies with our current businesses. In addition:
If these new generation plants are not able to (i) generate the energy contracted by our clients, or (ii) generate the energy necessary to supply any clients in the free market, and (iii), the energy provided to us is insufficient to supply the contracted demand, we may be obliged to buy the shortfall in the spot market, in which the price per MWh is usually more volatile and may be higher than our price, resulting in an adverse effect on us.
Our growth, operating results and financial condition may be negatively affected by one or more of the above factors.
We are controlled by a few shareholders acting together, and their interests could conflict with yours.
As of December 31, 2009, VBC Energia S.A., or VBC, PREVI (through BB Carteira Livre I FIA), and Bonaire Participações S.A., or Bonaire, owned 25.62%, 31.10% and 12.65%, respectively, of our outstanding common shares. These entities are parties to a shareholders agreement, pursuant to which they share the power to control us. Our controlling shareholders may take actions that could be contrary to your interests, and our controlling shareholders will be able to prevent other shareholders, including you, from blocking these actions. In particular, our controlling shareholders control the outcome of decisions at shareholders meetings, and they can elect a majority of the members of our Board of Directors. Our controlling shareholders can direct our actions in areas such as business strategy, financing, distributions, acquisitions and dispositions of assets or businesses. Their decisions on these matters may be contrary to the expectations or preferences of our noncontrolling shareholders, including holders of our ADSs. See Item 7. Major Shareholders and Related Party TransactionsShareholders Agreement.
We are exposed to increases in prevailing market interest rates, as well as foreign exchange rate risk.
As of December 31, 2009, approximately 84.8% of our total indebtedness was denominated in reais and indexed to Brazilian money-market rates or inflation rates, or bore interest at floating rates. The remaining 15.2% of our total indebtedness was denominated in U.S. dollars and Japanese yen and substantially subject to currency swaps that converted these obligations into reais. Accordingly, if these indexation rates rise or the U.S. dollar/real or Japanese yen/real exchange rates appreciate, our financing expenses will increase.
Our indebtedness and debt service obligations could adversely affect our ability to operate our business and make payments on our debt.
As of December 31, 2009, we had a debt of R$7,463 million. Our indebtedness increases the possibility that we may be unable to generate cash sufficient to pay when due the principal, interest or other amounts due in respect of our indebtedness. In addition, we may incur additional debt from time to time to finance strategic acquisitions, investments, joint ventures or for other purposes, subject to the restrictions applicable under our existing indebtedness. If we incur additional debt, the risks associated with our leverage would increase.
We may acquire other companies in the electricity business, as we have in the past, and these acquisitions could increase our leverage or adversely affect our consolidated performance.
We regularly analyze opportunities to acquire other companies engaged in activities along the entire electricity generation, transmission and distribution chain. If we do acquire other electricity companies, it could increase our leverage or reduce our profitability. Furthermore, we may not be able to integrate the acquired companys activities and achieve the economies of scale and expected efficiency gains that often drive such acquisitions, and failure to do so could harm our financial condition and results of operations.
Our reported financial condition and results could be adversely affected by changes in Brazilian Accounting Principles due to the convergence to IFRS.
Brazilian Accounting Principles have been undergoing rapid change pursuant to legislation adopted late in 2007, requiring among other things that Brazilian accounting standard-setters move toward convergence with IFRS, which will be mandatory by 2010. Many new accounting standards have been adopted and are currently being implemented. Others are expected in the near future. We cannot yet predict the effects on our financial statements that will result when these changes take effect. These effects could include reducing our reported revenues, operating income or net income, or adversely affecting our balance sheet. Such changes could adversely affect our compliance with financial covenants under our financing facilities. They could also reduce the ability of our subsidiaries to pay dividends to us, or our ability to pay dividends to our shareholders.
Two aspects of IFRS that could have a material impact on us are the recognition of regulatory assets and accounting for our concessions. Accounting for our concessions include a potential reclassification of property, plants and equipment as intangible assets, financial assets, or both. Under Brazilian Accounting Principles and U.S. GAAP, we recognize as assets and liabilities certain amounts that we are legally entitled to collect, or required to pay, in the future under the regulations applicable to our distribution subsidiaries. Depending on the outcome of the convergence with IFRS, accounting for regulatory assets and liabilities may have a material effect on our reported financial condition and results of operations. See Item 5. Operating and Financial Review and Prospects. We and other similarly situated Brazilian companies are discussing these points with the Brazilian standard-setters and regulators, but we cannot predict the outcome of those discussions or the ultimate manner in which IFRS or Brazilian standards based on IFRS will apply to us.
Risks Relating to Brazil
The Brazilian government has exercised, and continues to exercise, significant influence over the Brazilian economy. This involvement, as well as Brazilian political and economic conditions, could adversely affect our business and the trading price of our ADSs and our common shares.
The Brazilian government frequently intervenes in the Brazilian economy and occasionally makes significant changes in policy and regulations. The Brazilian governments actions to control inflation and other policies and regulations have often involved, among other measures, increases in interest rates, changes in tax policies, price controls, currency devaluations, capital controls and limits on imports. Our business, financial condition and results of operations may be adversely affected by changes in policy or regulations at the federal, state or municipal levels involving or affecting factors such as:
Exchange rate instability may adversely affect our financial condition and results of operations and the market price of the ADSs and our common shares.
The Brazilian currency has during the last decades experienced frequent and substantial variations in relation to the U.S. dollar and other foreign currencies. Between 2000 and 2002, the real depreciated significantly against the U.S. dollar, reaching an exchange rate of R$3.53 per US$1.00 at the end of 2002. Between 2003 and mid-2008, the real appreciated significantly against the U.S. dollar due to the stabilization of the macro-economic environment and a strong increase in foreign investment in Brazil, with the exchange rate reaching R$1.56 per US$1.00 in August 2008. In the context of the crisis in the global financial markets after mid-2008, the real depreciated against the U.S. dollar over the year 2008 and reached R$2.337 per US$1.00 at year end 2008. During 2009, the real appreciated against the U.S. dollar 25.5% in the context of the economic recovery and reached R$1.741 per US$1.00 at year end 2009. On March 26, 2010, the exchange rate was R$1.823 per US$1.00.
Depreciation of the real increases the cost of servicing our foreign currency denominated debt and the cost of purchasing electricity from the Itaipu power plant, a hydroelectric facility that is one of our major suppliers and that adjusts electricity prices based in part on its U.S. dollar costs. Depreciation of the real against the U.S. dollar could create inflationary pressures in Brazil and cause increases in interest rates, which could negatively affect the growth of the Brazilian economy as a whole and harm our financial condition and results of operations, may curtail access to foreign financial markets and may prompt government intervention, including recessionary governmental policies. Depreciation of the real against the U.S. dollar can also, as in the context of the current economic slowdown, lead to decreased consumer spending, deflationary pressures and reduced growth of the economy as a whole. On the other hand, appreciation of the real relative to the U.S. dollar and other foreign currencies could lead to a deterioration of the Brazilian foreign exchange current accounts, as well as dampen export-driven growth. Depending on the circumstances, either depreciation or appreciation of the real could materially and adversely affect the growth of the Brazilian economy and our business, financial condition and results of operations.
Depreciation of the real also reduces the U.S. dollar value of distributions and dividends on the ADSs and the U.S. dollar equivalent of the market price of our common shares and, as a result, the ADSs.
Government efforts to combat inflation may hinder the growth of the Brazilian economy and could harm our business.
Brazil has in the past experienced extremely high rates of inflation and has therefore followed monetary policies that have resulted in one of the highest real interest rates in the world. Between 2004 and 2009, the base interest rate (SELIC) in Brazil varied between 19.25% p.a. and 8.75% p.a. Inflation and the Brazilian governments measures to fight it, principally through the Central Bank, have had and may have significant effects on the Brazilian economy and our business. Tight monetary policies with high interest rates may restrict Brazils growth and the availability of credit. Conversely, more lenient government and Central Bank policies and interest rate decreases may trigger increases in inflation, and, consequently, growth volatility and the need for sudden and significant interest rate increases, which could negatively affect our business. In addition, if Brazil again experiences high inflation, we may not be able to adjust the rates we charge our consumers to offset the effects of inflation on our cost structure.
Developments and the perception of risk in other countries, including the United States and emerging market countries, may adversely affect the market price of Brazilian securities, including the ADSs and our common shares.
The market value of securities of Brazilian issuers is affected by economic and market conditions in other countries, including the United States, the European Union and emerging market countries. Although economic conditions in those countries may differ significantly from economic conditions in Brazil, investors reactions to developments in other countries may have an adverse effect on the market value of securities of Brazilian issuers. Crises in the United States, the European Union or emerging market countries may diminish investor interest in securities of Brazilian issuers, including ours. This could adversely affect the trading price of the ADSs or our common shares, and could also make it more difficult for us to access the capital markets and finance our operations in the future on acceptable terms or at all.
The global financial crisis which started during the second half of 2008 has had significant consequences, including in Brazil, such as stock and credit market volatility, unavailability of credit, higher interest rates, a general economic slowdown, volatile exchange rates and inflationary pressure, among others, which may, directly or indirectly, adversely affect us and the market price of Brazilian securities, including the ADSs and our common shares. Although the scenario has improved significantly since the second half of 2009, it is still not clear that the global economy has recovered in order to significantly reduce the consequences of the global financial crisis.
Risks Relating to the ADSs and Our Common Shares
Holders of our ADSs may encounter difficulties in the exercise of voting rights.
Holders of our common shares are entitled to vote on shareholder matters. You may encounter difficulties in the exercise of some of your rights as a shareholder if you hold our ADSs rather than the underlying common shares. For example, you are not entitled to attend a shareholders meeting, and you can only vote by giving timely instructions to the depositary in advance of the meeting.
If you surrender your ADSs and withdraw common shares, you risk losing the ability to remit foreign currency abroad and certain Brazilian tax advantages.
As an ADS holder, you benefit from the electronic certificate of foreign capital registration obtained by the custodian for our common shares underlying the ADSs in Brazil, which permits the custodian to convert dividends and other distributions with respect to the common shares into non-Brazilian currency and remit the proceeds abroad. If you surrender your ADSs and withdraw common shares, you will be entitled to continue to rely on the custodians electronic certificate of foreign capital registration for only five business days from the date of withdrawal. Thereafter, upon the disposition of or distributions relating to the common shares, you will not be able to remit abroad non-Brazilian currency unless you obtain your own electronic certificate of foreign capital registration or you qualify under Brazilian foreign investment regulations that entitle some foreign investors to buy and sell shares on Brazilian stock exchanges without obtaining separate electronic certificates of foreign capital registration. If you do not qualify under the foreign investment regulations you will generally be subject to less favorable tax treatment of dividends and distributions on, and the proceeds from any sale of, our common shares.
If you attempt to obtain your own electronic certificate of foreign capital registration, you may incur expenses or suffer delays in the application process, which could delay your ability to receive dividends or distributions relating to our common shares or the return of your capital in a timely manner. The depositarys electronic certificate of foreign capital registration may also be adversely affected by future legislative changes.
Holders of ADSs may be unable to exercise preemptive rights with respect to our common shares.
We may not be able to offer our common shares to U.S. holders of ADSs pursuant to preemptive rights granted to holders of our common shares in connection with any future issuance of our common shares unless a registration statement under the Securities Act is effective with respect to such common shares and preemptive rights, or an exemption from the registration requirements of the Securities Act is available. We are not obligated to file a registration statement relating to preemptive rights with respect to our common shares, and we cannot assure you that we will file any such registration statement. If such a registration statement is not filed and an exemption from registration does not exist, Deutsche Bank, as depositary, will attempt to sell the preemptive rights, and you will be entitled to receive the proceeds of such sale. However, these preemptive rights will expire if the depositary does not sell them, and U.S. holders of ADSs will not realize any value from the granting of such preemptive rights.
The relative volatility and illiquidity of the Brazilian securities markets may substantially limit your ability to sell the common shares underlying the ADSs at the price and time you desire.
Investing in securities that trade in emerging markets, such as Brazil, often involves greater risk than investing in securities of issuers in the United States, and such investments are generally considered to be more speculative in nature. The Brazilian securities market is substantially smaller, less liquid, more concentrated and can be more volatile than major securities markets in the United States. Accordingly, although you are entitled to withdraw the common shares underlying the ADSs from the depositary at any time, your ability to sell the common shares underlying the ADSs at a price and time at which you wish to do so may be substantially limited. There is also significantly greater concentration in the Brazilian securities market than in major securities markets in the United States. The ten largest companies in terms of market capitalization represented 52.5% of the aggregate market capitalization of the BM&FBOVESPA S.A., Bolsa de Valores, Mercadorias & Futuros (BM&FBOVESPA), as of December 31, 2009. The top ten stocks in terms of trading volume accounted for 41.5%, 53.2% and 50.4% of all shares traded on the BM&FBOVESPA in 2007, 2008 and 2009, respectively.
ITEM 4. INFORMATION ON THE COMPANY
We are a corporation (sociedade por ações) incorporated and existing under the laws of Brazil with the legal name CPFL Energia S.A. Our principal executive offices are located at Rua Gomes de Carvalho, 1,510, 14º andar Cj 1402, Vila Olímpia, CEP 04547-005, in the City of São Paulo, State of São Paulo, Brazil and our telephone number is +55 11 3841-8507.
We are a holding company that, through our subsidiaries, distributes, generates and commercializes electricity in Brazil. We were incorporated in 1998 as a joint venture among VBC, 521 Participações S.A. and Bonaire to combine their interests in companies operating in the Brazilian power sector.
We are one of the largest electricity distributors in Brazil, based on the 37,821 GWh of electricity we distributed to approximately 6.6 million consumers in 2009. In 2009, our installed generating capacity was 1,737 MW. We are also involved in building one new hydroelectric generation facility, two biomass generation projects, two thermoelectric power plants and seven wind farms, through which we expect to increase our installed generating capacity to 2,597 MW as they are completed over the next two years.
We also engage in electricity commercialization and provide electricity-related services to our affiliates as well as unaffiliated parties. In 2009, the total amount of electricity sold by our commercialization services was 5,912 GWh and 10,588 GWh to affiliated and unaffiliated parties, respectively.
In 2009 and through March 31, 2010, the following developments affected our corporate structure:
The following chart provides an overview of our corporate structure, as of March 31, 2010:
Our core businesses are:
Our overall objective is to continue to be a leading supplier of electricity distribution services in Brazil, while expanding our other activities and maximizing profitability and shareholder value. We seek to achieve these goals by consistently pursuing operational efficiency, growth through business synergies, financial discipline, social responsibility and enhanced corporate governance standards. More specifically, our approach involves the following key business strategies:
Focus on further improving our operating efficiency. The distribution of electricity to captive consumers in our distribution concession areas is our largest business segment. We continue to focus on improving our service and maintaining low operating costs by exploiting synergies across subsidiaries and investing in new systems that monitor our assets so that they are more efficiently managed. We seek to create value for our shareholders by optimizing our debt portfolio and exercising shrewd financial judgment. We also believe that a strong distribution business of sufficient scale will continue to provide a springboard for our strategies in electricity generation and commercialization. We also make an effort to standardize and update our operations regularly, introducing automated systems where possible. In 2008, we implemented the Six Sigma Quality process in our distribution processes.
Complete the development of our existing generation projects and expand our generation portfolio by developing new generation projects, in particular projects from renewable energy sources. We have been developing a portfolio of new hydroelectric generating facilities. Between 2005 and 2009, five new plants became operational, which, together with our prior facilities, have a total installed capacity of 1,737 MW. In 2008, we entered into the energy generation from biomass through CPFL Bioenergia (Baldin energy generation plant). In 2009, we (i) acquired a 51.0% stake in Centrais Elétricas da Paraíba (EPASA), owner of the Termonordeste and Termoparaíba thermoelectric power plants; (ii) constituted CPFL Bio Formosa, a company for the development of the second project of energy generation from biomass of CPFL Group; and (iii) acquired seven companies engaged in the construction of wind farms. In 2010, when Foz do Chapecó, CPFL Bioenergia and the two thermoelectric power plants that belong to EPASA are expected to become fully operational, we expect our generation capacity to reach 2,369 MW. By 2011, when CPFL Bio Formosa is expected to become fully operational, this capacity may reach 2,409 MW and, by 2012, when we expect the wind farms to become operational, it may reach 2,597 MW. Part of these generation facilities have associated long-term power purchase agreements (PPAs), approved by ANEEL, which we believe will ensure us an attractive rate of return on our investment. As per capita consumption of electricity in Brazil increases, we believe that there will continue to be new opportunities for us to explore investments in additional generation projects.
Expand and strengthen our commercialization business. Free Consumers represent a significant segment of the electricity market in Brazil. We strive to maintain our captive market. However, where we face competition, we make an effort to retain those of our consumers that are Free Consumers by means of bilateral contracts with CPFL Brasil, our commercialization subsidiary, in addition to attracting additional Free Consumers from outside of our distribution companies concession areas. In order to achieve this objective, we foster positive relationships with customers by providing electricity-related services, strategic advice and decision-making support.
Position ourselves to take advantage of consolidation in our industry by using our experience in successfully integrating and restructuring other operations. We believe that with the stabilization of the regulatory environment in the Brazilian power industry, there may be substantial consolidation in the generation, the transmission and, particularly, the distribution sectors. Given our financial strength and managerial expertise, we believe that we are well-positioned to take advantage of this consolidation. If promising assets are available on attractive terms, we may make acquisitions that complement our existing operations and afford us further opportunities to take advantage of economies of scale.
Maintain a high level of social responsibility in the communities in which we operate. We aim to hold our business operations to the highest standards of social responsibility and sustainable development in terms of our efforts to respect the environment. We also support initiatives to advance the economic, cultural and social interests of the communities in which we operate and contribute effectively to their further development.
Follow enhanced corporate governance standards. We are dedicated to maintaining the highest levels of management transparency, provide equitable shareholder rights and, through various measures, including the increase of our free float and the liquidity of our shares, generate value for our shareholders.
Our Service Territory
We are one of the largest electricity distributors in Brazil, based on the amount of electricity we delivered in 2009. Our eight distribution subsidiaries together supply electricity to a region covering 208,205 square kilometers primarily in the States of São Paulo and Rio Grande do Sul. Their service areas include 568 municipalities and a population of approximately 17.2 million people. Together, they provided electricity to approximately 6.6 million consumers as of December 31, 2009. Our eight subsidiaries distributed approximately 13% of the total electricity distributed in Brazil, based on the most recent data available from ANEEL (information from the second quarter of 2008).
We have eight distribution subsidiaries:
ANEEL reported in the fourth quarter of 2008 that our market share in the Brazilian energy distribution sector was 13%.
Our eight distribution subsidiaries own distribution lines with voltage levels ranging from 34.5 kV to 138 kV. These lines distribute electricity from the connection point with the Basic Network to our power sub-stations, in each of our concession areas. All consumers that connect to these distribution lines, such as Free Consumers or other concessionaires, are required to pay a tariff for using the system Tarifa de Uso do Sistema de Distribuição (TUSD).
Each of our subsidiaries has a distribution network consisting of a widespread network of predominantly overhead lines and sub-stations having successively lower voltage ranges. Consumers are classified in different voltage levels based on their consumption of, and demand for, electricity. Large industrial and commercial consumers receive electricity at high voltage ranges (up to 138 kV) while smaller industrial, commercial and residential consumers receive electricity at lower voltage ranges (2.3 kV and below).
As of December 31, 2009, our distribution network consisted of 205,496 kilometers of distribution lines, including 242,840 distribution transformers. Our eight distribution subsidiaries had 9,456 km of high voltage distribution lines between 34.5 kV and 138 kV. At that date, we had 424 transformer sub-stations for transforming high voltage into medium voltages for subsequent distribution, with total transforming capacity of 12,502 mega-volt amperes. Of the industrial and commercial consumers in our concession area, 212 had 69 kV, 88 kV or 138 kV high-voltage electricity supplied through direct connections to our high voltage distribution lines.
We experience two types of electricity losses: technical losses and commercial losses. Technical losses are those that occur in the ordinary course of our distribution of electricity. Commercial losses are those that result from illegal connections, fraud or billing errors. Our electricity loss rates compare favorably to the average for other major Brazilian electricity distributors in 2009 according to the most recent information available from the Brazilian Association of Electric Energy Distributors, Associação Brasileira de Distribuidores de Energia Elétrica (ABRADEE), an industry association.
We are also actively engaged in efforts to reduce commercial losses from illegal connections, fraud, billing errors and similar matters. To achieve this, in each of our eight subsidiaries, we have deployed trained technical teams to conduct inspections, enhanced monitoring for irregular consumption, increased replacements for obsolete measuring equipment and developed a computer program to discover and analyze irregular invoicing. Approximately 476,500 inspections were conducted during 2009, which we believe led to a recovery of receivables estimated at more than R$133 million. Our eight distribution subsidiaries have lower rates of commercial losses than other Brazilian power companies.
The following table sets forth for each of our distribution subsidiaries the frequency and duration of electricity outages per consumer for the years 2009 and 2008:
|Year ended December 31, 2009|
|(1) Frequency of outages per consumer per year (number of outages)|
|(2) Duration of outages per consumer per year (in hours)|
|Year ended December 31, 2008|
|(1) Frequency of outages per consumer per year (number of outages).|
|(2) Duration of outages per consumer per year (in hours).|
|*A power outage in Brazil on November 10, 2009, which interrupted the energy supply in 17 states and the Federal District, affected the FEC/DEC indexes in four of our distribution subsidiaries (CPFL Paulista, CPFL Piratininga, CPFL Jaguari and CPFL Santa Cruz), responsible for 66.0% of our distribution supply. Similar events occurred in 2002, 1999 and 1985 in Brazil.|
We seek to improve the quality and reliability of our power supply, as measured by the frequency and duration of our power outages. Our frequency and duration of interruptions per consumer in the past few years compare favorably to the averages for other Brazilian distribution companies.
Based on data published by ANEEL, the duration and frequency of outages at CPFL Paulista and CPFL Piratininga are among the lowest in Brazil compared to companies of similar size. The duration of outages at RGE are comparatively higher than those at CPFL Paulista and CPFL Piratininga, but they remain in line with the average rate for power companies in Southern Brazil mainly as a result of the lack of redundancies in its distribution system, the use of medium voltage lines and a lower level of automation in the network. Moreover, these indicators at RGE are at historical lows for the company, which registered 9.0% and 6.3% reductions in the DEC and FEC indexes, respectively, from 2008, obtaining our best performance yet, due principally to our corporate reorganization and maintenance policy.
Our distribution subsidiaries have construction and maintenance technology that allows for repairs of the electricity network without interruption in electricity service, which allows us to have low levels of scheduled interruption, amounting to approximately up to 16.0% of total interruptions. Unscheduled interruptions due to accidents or natural causes, including lightning storms, fire and wind represented the remainder of our total interruptions. In 2009, we invested a total of R$371 million in improvements of (i) the logistics of our operations, (ii) our systems, and (iii) our infrastructure to support operations, across our different business segments. We expect to invest an additional R$1,057 million for such purposes in 2010.
We strive to improve response times for our repair services. The quality indicators for the provision of energy by CPFL Paulista and CPFL Piratininga have maintained levels of excellence while complying with regulatory standards. This was also mainly the result of our efficient operational logistics, including the strategic positioning of our teams and the technology and automation of our network and operation centers, together with a preventive maintenance and conservation plan.
Purchases of Electricity
Most of the electricity we sell is purchased from unrelated parties, rather than generated by our facilities. In 2009, 8.3% of the total electricity our distribution subsidiaries acquired was purchased from our generation subsidiaries. Of the total energy that we purchased in 2009, 69.2% was purchased in the regulated market and 30.8% was purchased in the free market.
In 2009, we purchased 11,084 GWh of electricity from the Itaipu power plant, amounting to 21.1% of the total electricity we purchased. Itaipu is located on the border of Brazil and Paraguay and is subject to a bilateral treaty between the two countries pursuant to which Brazil has committed to purchasing specified amounts of electricity. Electric utilities operating under concessions in the Midwest, South and Southeast regions of Brazil are required by law to purchase a portion of the electricity that Brazil is obligated to purchase from Itaipu. The amounts that these companies must purchase are governed by take-or-pay contracts with tariffs established in US$/kW. ANEEL annually determines the amount of electricity to be sold by Itaipu. We pay for energy purchased from Itaipu in accordance with the ratio between the volume established by ANEEL and our statutorily established share, regardless of whether Itaipu generates such amount of electricity. Our purchases represent approximately 16.8% of Itaipus total supply to Brazil. This share was fixed by law according to the amount of electricity sold in 1991. The rates at which companies are required to purchase Itaipus electricity are established pursuant to the bilateral treaty, and fixed to cover Itaipus operating expenses and payments of principal and interest on Itaipus U.S. dollar-denominated debts, as well as the cost of transmitting the power to their concession areas.
The Itaipu plant has an exclusive transmission grid. Distribution companies pay a fee for the use of this grid.
In 2009, we paid an average of R$104.41 per MWh for purchases of electricity from Itaipu, as compared to R$88.10 during 2008 and R$89.44 during 2007. These figures do not include the transmission fee.
We purchased 41,454 GWh of electricity in 2009 from generating companies other than Itaipu, representing 78.9% of the total electricity we purchased. For more information on the regulated market and the free market, see The Brazilian Power IndustryThe New Industry Model Law.
The following table shows amounts purchased from our suppliers in the regulated market and in the free market, for the periods indicated.
|Year Ended December 31,|
|Electricity purchased in the regulated market:|
|Tractebel Energia S.A.||7,002||7,128||8,110|
|Petrobrás Petróleo Brasileiro S.A||1,721||1,718||1,717|
|AES Uruguaiana Ltda||149||1,243||1,244|
|Duke Energy Inter. Ger. Paranapanema S.A||82||219||1,195|
|Furnas Centrais Elétricas S.A.||1,649||1,261||1,207|
|Electric Energy Trading Chamber CCEE||3,004||2,820||783|
|Companhia de Geração de Energia Elétrica Tietê||226||302||377|
|Companhia Energética de São Paulo CESP||1,808||1,711||1,071|
|Companhia Hidro Elétrica do São Francisco CHESF||1,318||1,255||634|
|Companhia Energética de Minas Gerais CEMIG.||1,706||723||295|
|Copel Geração S.A.||713||343|||
|COOMEX Empresa Operadora do Mercado Energético Ltda.||284|||||
|Companhia Energética Santa Clara CESC||132||132|||
|Queiróz Galvão Energética S.A.||280||280|||
|Electricity purchased in the free market||16,180||16,183||18,488|
The provisions of our electricity supply contracts are governed by ANEEL regulations. The main provisions of each contract relate to the amount of electricity purchased, the price, including adjustments for various factors such as inflation indexes, and the duration of the contract.
Transmission Tariffs. In 2009, we paid a total of R$1,171 million in tariffs for the use of the transmission network, including Basic Network tariffs, connection tariffs and transmission of high-voltage electricity from Itaipu at rates set by ANEEL.
Consumers and Tariffs
We classify our consumers into five principal categories. See Note 23 to our audited consolidated financial statements for a breakdown of our sales by category.
Industrial consumers. Sales to final industrial consumers accounted for 30.4% of our revenue of electricity sales in 2009.
Residential consumers. Sales to final residential consumers accounted for 37.6% of our revenue of electricity sales in 2009.
Commercial consumers. Sales to final commercial consumers, which include service businesses, universities and hospitals, accounted for 19.9% of our revenue of electricity sales in 2009.
Rural consumers. Sales to final rural consumers accounted for 3.2% of our revenue of electricity sales in 2009.
Other consumers. Sales to other consumers, which include public and municipal services such as street lighting, accounted for 8.9% of our revenue of electricity sales in 2009.
Retail Distribution Tariffs. We classify our consumers into two different groups, Group A consumers and Group B consumers, based on the voltage level at which the electricity is supplied to such consumers. Each consumer is placed in a certain tariff level defined by law and based on its respective classification, although some volume-based discounts are available. Group B consumers pay higher tariffs. There are differentiated tariffs in Group B by types of consumer (such as residential, commercial, rural and industrial). Consumers in Group A pay lower tariffs, decreasing from A4 to Al, because they are supplied electricity at higher voltages, which requires lower use of the energy distribution system. Tariffs we charge for sales of electricity to Final Consumers are determined pursuant to our concession agreements and regulations established by ANEEL. These concession agreements and related regulations establish a cap on tariffs that provides for annual, periodic and extraordinary adjustments. For a discussion of the regulatory regime applicable to our tariffs and their adjustment, see The Brazilian Power Industry.
Group A consumers receive electricity at 2.3 kV or higher. Tariffs for Group A consumers are based on the voltage level at which electricity is supplied, and the time of year and the time of day electricity is supplied, although consumers may opt for a differentiated tariff in peak periods. Tariffs for Group A consumers are comprised of two components: a capacity charge and an energy charge. The capacity charge, expressed in reais per kW, is based on the higher of (i) contracted firm capacity or (ii) power capacity actually used. The energy charge, expressed in reais per MWh, is based on the amount of electricity actually consumed. Group A consumers are those that will likely qualify as Free Consumers under the New Industry Model Law.
Group B consumers receive electricity at less than 2.3 kV (220V and 127V). Tariffs for Group B consumers consist solely of an energy consumption charge and are based on the classification of the consumer.
The following tables sets forth our average retail prices for each consumer category for 2009 and 2008. These prices include taxes (ICMS, PIS and COFINS) and were calculated based on our revenues and the volume of electricity sold in 2009 and 2008.
|Year ended December 31, 2009|
|Year ended December 31, 2008|
Under current regulations, residential consumers are classified as low income residential consumers according to the amount of energy they consume. Consumers that utilize less than 80 kWh to 220 kWh per month, depending on the regulations in the region in which they live, can be deemed low income residential consumers or can apply to become low income residential consumers, and accordingly receive benefits under some of the Brazilian governments social programs. One such benefit afforded to low income residential consumers is that they are not subject to the payment of emergency capacity and emergency acquisition charges or any extraordinary tariff approved by ANEEL.
TUSD. Under applicable laws and regulations, we are required to allow use of our high-voltage distribution lines by others, including Free Consumers within our distribution concession areas that are supplied by third parties. All of our consumers must pay a fee for the use of our network. In 2009, tariff revenues for the use of our network by Free Consumers amounted to R$789 million. The average tariff for the use of our network was 73.45 R$/MWh and 63.92 R$/MWh in 2009 and 2008, respectively, including the TUSD we charge to other distributors connected to our distribution network.
The procedure we use for billing and payment for electricity supplied to our consumers is determined by consumer category. Meter readings and invoicing take place on a monthly basis for low voltage consumers, with the exception of rural consumers whose meters are read in intervals varying from one to three months, as authorized by relevant regulation. Bills are prepared from meter readings or on the basis of estimated usage. Low voltage consumers are billed within three business days after the meter reading, with payment required within five business days after the invoice date. In case of nonpayment, a notification of nonpayment accompanied by the next months invoice, is sent to the consumer and a period of 15 days is provided to eliminate the amount owed to us. If payment is not received within three business days after the 15-day period, the consumers electricity supply is suspended.
High voltage consumers are billed on a monthly basis with payment required within five business days after the invoice date. In the event of nonpayment, a notice is sent to the consumer four business days after the due date, giving a deadline of 15 days to make payment. If payment is not made within three business days after the notice, the consumer is subject to discontinuation of service.
At December 31, 2009, consumers in default represented an average 1.16% of annual revenues of our eight subsidiaries. These figures have fallen consistently in the past few years and are currently among the lowest in the Brazilian power industry.
We strive to provide high-quality customer service to our distribution consumers. We operate call centers at each of our distribution subsidiaries providing customer service 24 hours a day, 7 days a week. In 2009, our call centers responded to approximately 9.8 million calls. We also provide customer service through our Internet website, which handled approximately 7.7 million customer requests in 2009, and through our branch offices, which handled approximately 1.6 million customer requests in 2009. The growth in electronic requests has allowed us to reduce our customer service costs. Following receipt of a customer service request, we dispatch our technicians to make any necessary repairs.
Generation of Electricity
We are actively expanding our generating capacity. In accordance with Brazilian regulation, revenues from generation are based mainly on assured energy of each facility, rather than its installed capacity or actual output of each generating facility. Assured energy is a fixed output of electricity established by the Brazilian government in the relevant concession agreement. For companies that are centrally dispatched by the ONS, actual output is determined periodically by the ONS in view of demand and hydrological conditions. Provided generators have sold their electricity and participate in the Energy Reallocation Mechanism, Mecanismo de Realocação de Energia (MRE), they will receive at least the amount relating to the assured energy, even if they do not actually generate all of it. Conversely, in case the generators output exceeds the assured energy, their incremental revenue will only cover the costs associated thereto. Most of our hydroelectric plants are members of the MRE, which mitigates hydrologic risks.
In 2009, CPFL Geração owned 51.54% interest in the assured energy from the Serra da Mesa power plant. Through our generation subsidiaries CERAN, BAESA and ENERCAN, CPFL Geração also owned interests in the Monte Claro, Barra Grande, Campos Novos, Castro Alves and 14 de Julho plants, which have been operational since December 2004, November 2005, February 2007, March 2008 and December 2008, respectively. Through CPFL Jaguariúna, we owned 6.93% interest in the Luis Eduardo Magalhães power plant. We also operated 33 small hydroelectric power plants and three thermoelectric power plants, two of which are under construction.
Our total installed generation capacity from all of these facilities was 1,737 MW as of December 31, 2009. We produce electricity almost exclusively through our hydroelectric plants. We generated 5,984 GWh in 2009, 6,659 GWh in 2008 and 6,382 GWh in 2007. We are also currently involved in a joint venture to build the hydroelectric generation facility of Foz do Chapecó, in the construction of the CPFL Bioenergia and CPFL Bio Formosa co-generation plants, in the construction of the Termoparaíba and the Termonordeste thermoelectric power plants and in the construction of the Santa Clara wind farms. Upon completion of these facilities, we expect to have a total installed capacity of 2,597 MW until 2012.
The following table sets forth certain information relating to our principal facilities in operation as of March 31, 2010:
|Serra da Mesa||1,275.0||5,878.0||1998|
|Our share of Serra da Mesa (51.54%)||657.1||3,029.5|
|Our share of Monte Claro (65%)||84.5||335.9|
|Our share of Barra Grande (25.01%)||172.5||833.7|
|Our share of Campos Novos (48.72%)||428.8||1,612.9|
|Our share of Castro Alves (65%)||84.5||364.4|
|14 de Julho||100.0||438.0||2008||2036|
|Our share of 14 de Julho (65%)||65.0||284.7|
|Luis Eduardo Magalhães||902.5||4,613.0||2001||2032|
|Our share of Luis Eduardo Magalhães (6.93%)||62.6||319.7|
|Subtotal (our share only)||1,555.0||6,780.8|
|Small hydroelectric power plant||Installed||Assured||Placed in||Facility||Concession|
|Salto do Pinhal||0.6||0||1911||(3)||2027|
|Ponte do Silva||0.1||0||1956||(4)|
|Rio do Peixe I||3.1||(5)||1925||2015|
|Rio do Peixe II||15.0||(5)||1998||2015|
|Thermoelectric power plants:|
|TOTAL (our share only)||1,736.8||7,488.7|
The concession for Serra da Mesa is held by Furnas. We have a contractual right to 51.54% of the assured energy of this facility, under a 30-year rental agreement, expiring in 2028.
Power plants that will be upgraded by 2013.
Power plants that are not active.
Hydroelectric projects with a generation capacity equal to or less than 1,000 kW that are registered with the regulatory authority and the administrator of power concessions, but are not eligible to concession or authorization processes.
Power plants that currently do not have assured energy approved by the MME. The energy that they produce is used by our distribution subsidiaries, reducing our energy purchases. We have applied for the assignment of a total of 78.6 GWh per year of assured energy for these nine small hydroelectric power plants and are waiting for MME and ANEEL approval.
Serra da Mesa. Our largest hydroelectric facility in operation is the Serra da Mesa facility, which we acquired in 2001 from VBC, one of our controlling shareholders. Furnas began construction on the Serra da Mesa facility in 1985. In 1994, construction was suspended due to a lack of resources, which led to a public bidding procedure in order to resume construction. Serra da Mesa currently consists of three hydroelectric facilities located on the Tocantins River in the State of Goiás. The Serra da Mesa facility began operations in 1998 and has an installed capacity of 1,275 MW. The concession for the Serra da Mesa facility is owned by Furnas, which is also the operator, and we own part of the facility. Under Furnas rental agreement with us, which has a 30-year term commencing in 1998, we have the right to 51.54% of the assured energy of the Serra da Mesa facility until 2028, irrespective of the actual electricity produced by the facility, even if, during the term of the concession, there is an expropriation or forfeiture of the concession or the term of the concession expires. We sell all of such electricity to Furnas under an electricity purchase contract that expires in 2014 and that adjusts annually based on the IGP-M. After the expiration of this electricity purchase arrangement with Furnas, we will retain, until 2028, the right to 51.54% of the assured energy of Serra da Mesa. We will be allowed to commercialize it in accordance with regulations applicable at such time. Our share of the installed capacity and assured energy of the Serra da Mesa facility is 657 MW and 3,030 GWh/year, respectively. On May 5, 2008, Furnas requested the renewal of the plant concession term for an additional 20 years.
CERAN Complex. We own a 65.0% interest in CERAN, a joint venture that was granted a 35-year concession in March 2001 to construct, finance and operate the CERAN hydroelectric complex. The other shareholders are CEEE (30.0%) and Desenvix (5.0%). The CERAN hydroelectric complex consists of three hydroelectric plants: Monte Claro, Castro Alves and 14 de Julho. The complex is located on the Antas River approximately 120 km north of Porto Alegre, near the city of Bento Gonçalves, in the State of Rio Grande do Sul. The entire CERAN Complex has an installed capacity of 360 MW and estimated assured energy of 1,515.5 GWh per year, of which our share will be 985.1 GWh/year. We sell our participation in the assured energy of this complex to affiliates in our group. These facilities are operated by CERAN, under CPFL Geraçãos supervision.
Monte Claro (Ceran Complex). In 2004, Monte Claros first generator became operational, with an installed capacity of 65 MW and assured energy of 509.8 GWh a year, and in 2006, the second generator became operational, with an installed capacity of 65 MW and assured energy of 7.0 GWh per year. The plant has a total of 130 MW in installed capacity and 516.8 GWh in assured energy per year.
Castro Alves (Ceran Complex). In March 2008, the first generation unit of Castro Alves plant became operational, with an installed capacity of 43.4 MW and annual assured energy of 353.0 GWh. In April 2008, the second generation unit became operational, with an installed capacity of 43.4 MW and annual assured energy of 207.6 GWh. This plant became fully operational in June 2008, with a total installed capacity of 130 MW and annual assured energy of 560.6 GWh. Castro Alves added 84.5 MW to our capacity and an annual assured energy of 364.4 GWh.
14 de Julho (Ceran Complex). The first generation unit became operational in December, 2008, and the second generation unit became fully operational in March, 2009. This plant has a total installed capacity of 100 MW and an annual assured energy of 438.0 GWh. 14 de Julho added 65 MW to our capacity and an annual assured energy of 284.7 GWh.
Barra Grande. This facility became fully operational on May 1, 2006 with a total installed capacity of 690 MW and total assured energy of 3,334.1 GWh per year. CPFL Geração owns a 25.01% interest in this plant. The other shareholders of the joint venture are Alcoa (42.18%), CBA (Companhia Brasileira de Alumínio) (15.00%), DME (Departamento Municipal de Eletricidade de Poços de Caldas) (8.82%), and Camargo Corrêa Cimentos S.A. (9.00%) . We sell our participation in the assured energy of this facility to affiliates in our group.
Campos Novos. We own a 48.72% interest in ENERCAN, a joint venture formed by a consortium of private and public sector companies that was granted a 35-year concession in May 2000 to construct, finance and operate the Campos Novos hydroelectric facility. The plant was constructed on the Canoas River in the State of Santa Catarina, and became fully operational on May 1, 2007 with a total installed capacity of 880 MW and assured energy of 3,310.4 GWh per year, of which our interest is 1,612.9 GWh per year. The other shareholders of ENERCAN are CBA (24.73%), Votorantim Metais Níqueis S.A. (20.04%) and CEEE (6.51%). The plant is operated by ENERCAN under CPFL Geraçãos supervision. This plant increased our installed capacity by 428.8 MW. We sell our participation in the assured energy of this joint venture to affiliates in our group.
Luis Eduardo Magalhães Power Plant. We own a 6.93% interest in Luis Eduardo Magalhães power plant, also known as UHE Lajeado. The plant is located on the Tocantins river in the State of Tocantins, and became fully operational in November, 2002 with a total installed capacity of 902.5 MW and assured energy of 4,613 GWh per year. The plant was built by Investco S.A., a consortium comprised of Lajeado Energia, EDP (Energias de Portugal), CEB (Companhia Energética de Brasília) and Paulista Lajeado (that we acquired in 2007). We sell our participation in the assured energy of this plant to affiliates in our group.
Small Hydroelectric Power Plants. We operate 33 small hydroelectric power plants. Since 1988, we have been investing in their renovation and automation to increase their output. The program basically consists of the substitution of generation units by means of increase of power, replacing existing turbines and upgrading peripheral equipment and automated systems, as well as restoring infrastructure. Through these initiatives, we hope to increase the assured energy of such plants, their production of electricity and our profitability, while minimizing operational costs.
The automation of these power plants permits the remote execution of their control, supervision and operations. We also created an operation center for the management and monitoring of our power plants in Campinas, making it possible for the entire production cycle of the power plants to be remotely controlled in real time.
The costs of operations and maintenance of CPFL Geraçãos plants decreased from R$26.47/MWh in 1997 to R$12.93/MWh in 2009. The rate of availability of our power generation equipment increased from 82.0% in 1997 to 93.0% in 2009. Through 2013 we expect to begin projects to refurbish two power plants: Andorinhas and Guaporé.
In 2004, modernizing projects were presented for Gavião Peixoto, Chibarro and Capão Preto. The Gavião Peixoto project was approved by ANEEL in July of 2004 and the new assured energy level was approved by the Ministry of Mines and Energy, Ministério de Minas e Energia (MME) in June 2005, thereby increasing from 19.3 GWh per year to 33.5 GWh per year. Work on this project began in August 2005. The first generator began commercial operations in June 2007 and renovation projects were completed in July 2007. The renovation projects at the Capão Preto and Chibarro plants were approved by ANEEL in August and September 2005, respectively. The MME approved an increase in assured energy at Capão Preto from 8.7 GWh per year to 19.9 GWh per year, and at Chibarro from 6.1 GWh per year to 14.8 GWh per year. The modernization and renovation of these plants began in October 2006. Chibarro and Capão Preto were completed in February 2008.
Thermoelectric Power Plants. We operate one thermoelectric power plant with an installed capacity of 36 MW. The Carioba facility was constructed in 1954. As of 2002, the Carioba facility was operating with 100% fuel-subsidized oil. Beginning in 2003, this subsidy was gradually reduced and contracted electricity was simultaneously decreased by 25.0% per year. By the end of 2006, the subsidy was phased out entirely and, as a result, all assured energy at Carioba is now available to be contracted pursuant to PPAs.
Expansion of Generation Capacity
Demand for electricity in our distribution concession areas continues to grow. To address this increase in demand, and to improve our margins, we are expanding our generation capacity. We are currently completing the Foz do Chapecó hydroelectric plant, which will have a total expected installed capacity of 855 MW, of which our share will be 436 MW. We are also building the CPFL Bioenergia and the CPFL Bio Formosa co-generation plants, the Termoparaíba and the Termonordeste thermoelectric power plants and the Santa Clara wind farms, which together will have an installed capacity of 615 MW, of which 425 MW represents our share. By the end of 2012, we expect that the total generating capacity from this facility will become operational.
The following table sets forth information regarding our current hydroelectric generation projects as of December 31, 2009:
|Installed||Assured||Construction||Start of||Start of||Our||Capacity||Available to|
|Foz do Chapecó||855||3,784.3||2,641||2006||2010||51.0||436.1||1,930.1|
|CPFL Bioenergia||45||112.4||97.8||August 2008||2010||50.0||22.5||56.2|
|Installed||Assured||Construction||Start of||Start of||Our||Capacity||Available to|
|Bio Formosa||40||140.2||127||March 2010||2011||100||40||140.2|
|Santa Clara Wind|
Foz do Chapecó Project. We own a 51.0% interest in Chapecoense, a joint venture that plans to construct, finance and operate the Foz do Chapecó hydroelectric plant pursuant to a 35-year concession granted in November 2001. The remaining 49.0% interest in the joint venture is divided among Furnas, which holds a 40% interest, and CEEE, which holds a 9.0% interest. The Foz do Chapecó hydroelectric plant is located on the Uruguay River, on the border between the states of Santa Catarina and Rio Grande do Sul. The total estimated construction cost of the facility is at R$2,641 million, of which we will be responsible for R$1,347 million. Construction began in December 2006, and we anticipate that the plant will begin operations in 2010 and will add 436 MW to our generation capacity. Of our 51% share in the assured energy of this project, we sell 40% to affiliates in our group and 11% through CCEARs.
The expected capital structure is approximately 30.0% equity and 70.0% debt. Foz do Chapecó obtained R$1,656 million of financing for the Foz do Chapecó project from BNDES. Through 2009, a disbursement has been made in the total amount of R$1,388 million. We are the guarantor for CPFL Geraçãos portion in the financing and will guarantee CEEEs portion of the financing for a negotiated fee. The financing is also secured by a pledge of (i) the shares of Foz do Chapecó and (ii) credit rights of Foz do Chapecó related to the concession.
Project CPFL Bio Formosa. In 2009, CPFL Comercialização Brasil S.A. acquired the Baia Formosa powerplant (CPFL Bio Formosa), with a generation capacity of 40MW, with 25MW medium/electricity harvest. The construction of the UTE began in March 2010 and the plant is expected to begin its operations in July 2011. The total estimated cost of construction is R$127 million. In 2006, our consulting group helped the Farias Group to sell approximately 11 MW in the A-5 auction (an auction held five years before the initial delivery date, see Auctions on the Regulated Market). The success of the auction has helped CPFL Comercialização Brasil S.A. to acquire Usina Baia Formosa (currently CPFL Bio Formosa) in 2009.
Project CPFL Bioenergia. In partnership with Baldin Bioenergia, we are building a co-generation plant, in which we own a 50.0% interest. The plant is located in the city of Pirassununga, in the State of São Paulo. The total estimated cost of the thermoelectric power plant is R$97.8 million, of which R$48.9 million we are responsible for. The construction began in August 2008 and we expect that it will commence operations in the second third of 2010. This co-generation plant will add 22.5 MW to our installed generation capacity. All of this electricity was sold to CPFL Brasil.
Project EPASA. We are building two thermoelectric power plants from oil fuel, with total installed capacity of 342 MW and assured energy of 1.107GWh and in which we own a 51.0% interest. The Termoparaíba and Termonordeste thermoelectric power plants are located in the city of João Pessoa in the State of Paraíba. The total estimated cost of construction is R$608 million, of which R$310 million we are responsible for. The construction of these plants began in October 2009 and they are expected to commence operations in the third quarter of 2010, adding 174 MW to our installed generation capacity. The largest part of this electricity was sold in CCEARs and 18.8% of the electricity was bought by our distributors.
Santa Clara Wind Farm. In 2009, CPFL Geração developed and planned wind power generation projects and in September 2009 acquired a complex of wind farms. The Santa Clara wind farms I, II, III, IV, V, VI and Eurus VI will have installed generation capacity of 188 MW and assured energy of 666 GWh. The wind farms will be built in the city of Parazinho and João Câmara, in the state of Rio Grande do Norte. Construction is scheduled to commence in the second half of 2010 and operations are scheduled to commence in July 2012. The total estimated cost of construction is R$801 million. The electricity of this wind farm was sold through an auction, through contracts with CCEAR.
In addition, on March 23, 2010, our subsidiaries, CPFL Bio Buriti, CPFL Bio Ipê and CPFL Bio Pedra (companies created to develop electric energy generation projects using sugar cane bagasse) executed a partnership agreement with Grupo Pedra Agroindustrial to develop three new biomass generation projects. The aggregate potential installed capacity of these three projects is 145 MW and the investment is approximately R$366 million. Operations are scheduled to commence between June 2011 and April 2012.
Electricity Commercialization and Services
Our subsidiary CPFL Brasil carries out our electricity commercialization operations. Its key functions are:
procuring electricity for commercialization activities by entering into bilateral contracts with other energy companies (including our generation subsidiaries) and purchasing electricity in public auctions;
reselling electricity to Free Consumers;
reselling electricity to distribution companies (including CPFL Paulista, CPFL Piratininga and RGE) and other agents in the electricity market through bilateral contracts; and
providing electricity-related services and consulting to Final Consumers and other agents.
The rates at which CPFL Brasil purchases and sells electricity in the free market are determined in bilateral negotiations with its suppliers and consumers. The contracts with distribution companies are regulated by ANEEL. In addition to marketing electricity to unaffiliated parties, CPFL Brasil resells electricity to CPFL Paulista, CPFL Piratininga and RGE, but profit margins from sales to related parties have been limited to an average of 10.0% by ANEEL regulations. Prior to the New Industry Model Law, distribution companies were permitted to purchase up to 30.0% of their electricity requirements from affiliated companies. The ability to sell electricity to affiliated companies has been eliminated under the New Industry Model Law, with the exception of those contracts approved by ANEEL prior to March 2004. However, we are allowed to sell electricity to distributors through the open bidding process in the regulated market.
We offer our consumers a wide range of electricity-related services through CPFL Brasil. These services are designed to help consumers improve the efficiency, cost and reliability of the electric equipment they use. Our main electricity-related services include:
Electric energy management consultancy: Our consulting and electrical power management services assist consumers migration to the free market. CPFL Brasils contract management consulting services seek to support consumers decision-making with respect to electrical power and to strengthen our relation with consumers in the negotiation of price and electricity services;
Project design and construction: CPFL Brasil plans, constructs, commissions and provides electricity to substations, transmission lines, transformer stations, load centers and electrical energy distribution lines, always in line with each consumers needs and growth expectations and in accordance with the most rigorous safety criteria, aiming for an optimal use of resources;
Management of assets: In the maintenance arena, CPFL Brasil develops solutions that contribute to the optimal operation of electro-energetic installations for companies of all sizes, ensuring that interruptions to the electrical energy supply, and resulting business losses, are minimized;
Energy efficiency: CPFL Brasil aims to guide and assist its consumers businesses with the most energy efficient solutions, leading to reduced energy costs and allowing for greater investments in core business pursuits; and
Co-generation: Energy co-generation is the simultaneous and sequential production of two or more forms of energy from a single fuel; the most common process is electrical energy production from primary energy sources (natural gas and/or biomass). Companies with production processes, which make the installation of such a system feasible, can count on CPFL Brasils experience for feasibility studies, project design and installation of co-generation operations.
We face competition from other generation and commercialization companies in the sale of electricity to Free Consumers. Distribution and transmission companies are required to permit the use of their lines and ancillary facilities for the distribution and transmission of electricity by other parties upon payment of a tariff.
Brazilian law provides that all of our concessions can be renewed once with approval from the MME or ANEEL as the granting authority, provided that the concessionaire so requests and that certain requirements related to the rendering of public services are met. We intend to apply for the extension of each concession upon its expiration. We may face significant competition from third parties in bidding for renewal of such concessions or for any new concessions. ANEEL has absolute discretion over whether to renew existing concessions, and the acquisition of certain concessions by competing investors could adversely affect our results of operations.
Our Concessions and Authorizations
Hydroelectric generation projects with a capacity greater than 1,000 kW operated by an independent producer can usually only be implemented through concessions granted by ANEEL through public biddings (and the execution of a concession agreement). The possibility of any renewal of such concessions is analyzed by ANEEL on a case-by-case basis, according to the terms of the related agreement and public bidding note. However, ANEEL retains the power to deny the request to extend the concession period.
Certain projects such as wind farms, small scale hydroelectric power plants and thermoelectric power plants are implemented through an authorization awarded by the granting authority without the need for a public bidding process (as opposed to the concession). Renewal of an authorization is also at the discretion of ANEEL and is decided on a case-by-case basis, as long as it provides justification for the decision and it furthers the public interest.
For further information about concessions and authorizations, see The Brazilian Power Industry Consessions.
We operate under concessions granted by the Brazilian government through ANEEL for our generation and distribution businesses. We have the following concessions with respect to our distribution business:
|014/1997||CPFL Paulista||São Paulo||30 years from November 1997|
|09/2002||CPFL Piratininga||São Paulo||30 years from October 1998|
|013/1997||RGE||Rio Grande do Sul||30 years from November 1997|
|021/1999||CPFL Santa Cruz||São Paulo and Paraná||16 years from February 1999 to July 2015|
|015/1999||CPFL Jaguari||São Paulo||16 years from February 1999 to July 2015|
|017/1999||CPFL Mococa||São Paulo and Minas Gerais||16 years from February 1999 to July 2015|
|018/1999||CPFL Leste Paulista||São Paulo||16 years from February 1999 to July 2015|
|019/1999||CPFL Sul Paulista||São Paulo||16 years from February 1999 to July 2015|
The table below summarizes concessions related to our generation business. In addition, CPFL Sul Centrais is an Independent Producer with a generating capacity of less than 1,000 kW, and therefore it has a regulatory authorization rather than a concession agreement.
|Concession no.||Producers||Plant||State||Term||renewal period|
|128/2001||Foz do Chapecó||Foz do Chapecó||Santa Catarina and||35 years from||At the discretion|
|Rio Grande do Sul||November 2001||of ANEEL|
|036/2001||Barra Grande||Barra Grande||Rio Grande do Sul||35 years from May||At the discretion|
|008/2001||CERAN||14 de Julho,||Rio Grande do Sul||35 years from||At the discretion|
|Castro Alves and||March 2001||of ANEEL|
|043/2000||Enercan||Campos Novos||Santa Catarina||35 years from May||At the discretion|
|005/1997||Investco||Luiz Eduardo||Tocantins||35 years from||At the discretion|
|Magalhães||December 1997||of ANEEL|
|015/1997||CPFL Geração||Our 19 small||São Paulo||30 years from||30 years|
|power plants and|
|Decree No.||CPFL Geração||Serra da Mesa||Goiás||(1)||20 years|
|09/1999||CPFL Jaguari||Macaco Branco||São Paulo||16 years from||20 years|
|(small||February 1999 to|
|10/1999||CPFL Leste||Rio do Peixe I and||São Paulo||16 years from||20 years|
|Paulista||II (small||February 1999 to|
The concession for Serra da Mesa is held by Furnas and will expire on May 7, 2011. We have the contractual right to 51.54% of the assured energy of this facility under a 30-year rental agreement, expiring in 2028. On May 5, 2008, Furnas requested the renewal of the concession for Serra da Mesa plant for an additional term of 20 years.
|Authorization no.||Independent Producers||Plant||State||Term||Maximum renewal period|
|2106/2009||CPFL Bioenergia S.A.||UTE Baldin||São Paulo||30 years from||-|
|September 24, 2009|
|2277/2010||Centrais Elétricas da Paraíba S.A. - EPASA||UTE Termoparaíba||Paraíba||35 years from||At the discretion of MME|
|December 7, 2007|
|2277/2010||Centrais Elétricas da Paraíba S.A. - EPASA||UTE Termonordeste||Paraíba||35 years from||At the discretion of MME|
|December 12, 2007|
|259/2002||CPFL Bio Formosa S.A.||UTE Baía Formosa||Rio Grande do Norte||30 years from||At the discretion of ANEEL|
|May 15, 2002|
|The authorization of wind farms Santa Clara I, II, III, IV, V, VI and Eurus VI is scheduled to be issued through the MME on April 20, 2010, according to the schedule published on December 22, 2009. The authorization will be valid for 35 years from the date of its publication.|
A generation company classified as an independent producer under Brazilian law receives a concession or authorization to produce energy for its own consumption or for sale to local distribution companies, Free Consumers, and other types of consumers. The price to be charged by Independent Producers for the sale of energy to some consumers is subject to general criteria established by ANEEL, whereas the sale price to others can be freely negotiated between the parties.
A generation company classified as a concessionaire under Brazilian law receives a concession to distribute, transmit or generate electric energy. Since concessions involve public services, they can only be granted through a public bidding procedure (licitação pública). All tariffs charged by concessionaires are determined by ANEEL and concessionaires are not free to negotiate these rates with consumers.
The concession agreement and related documents establish the concession period and whether the related concession can be extended. For concessions to generate electric energy, the amortization period of the related investments is 35 years, renewable only once for a maximum period of 20 years.
Even though concession agreements and applicable laws generally allow for the extension of the concession period, such extension is not a right. The decision to extend a concession agreement is subject to the discretion of the granting authority, as long as it provides justification and the decision furthers the public interest.
Our principal properties consist of hydroelectric generation plants, substations and distribution networks. The net book value of our total property, plant and equipment as of December 31, 2009 was R$7,487 million. Apart from our distribution network, no single one of our properties produces more than 10.0% of our total revenues. Our facilities are generally adequate for our present needs and suitable for their intended purposes.
Pursuant to Brazilian law, essential properties and facilities used by us to perform our obligations under our concession agreements cannot be transferred, assigned, pledged or sold to, or encumbered by, any of our creditors without prior approval from ANEEL.
The Brazilian constitution gives both the Brazilian Federal and State Governments the power to enact laws designed to protect the environment. A similar power is given to municipalities whose local interests may be affected. Municipal laws are considered a supplement to federal and state laws. A violator of applicable environmental laws may be subject to administrative and criminal sanctions, and will have an obligation to repair and/or provide compensation for environmental damages. Administrative sanctions may include substantial fines and suspension of activities, while criminal sanctions may include fines and, for individuals, possible imprisonment, which can be imposed against executive officers and employees of companies who commit environmental crimes.
Our energy distribution and generation facilities are subject to environmental licensing procedures, which include the preparation of environmental impact assessments before such facilities are constructed. Once the respective environmental licenses are obtained, their maintenance is still subject to the compliance with various specific requirements.
The environmental issues regarding the construction of our new electricity generation facilities require specially-tailored oversight. For this reason, CPFL Geração manages these matters along with the basic environmental needs of each site in order to ensure that its policies and its environmental obligations are given adequate consideration. Decisions are made by environmental committees, whose members include representatives of each project partner and of each plants environmental management office. In this way, the implementation of environmental projects and the interaction with government agencies are given more importance in the process of environmental compliance and future electricity generation. For example, in securing the operating license for Barra Grande from IBAMA in July 2005, the project managers had a productive dialogue with representatives from the Federal Government allowing for both expanded electricity generation and environmental preservation. In addition, we support local community programs that relocate rural families from collective resettlements and provide institutional support for families involved in the conservation of the local biodiversity.
In order to facilitate compliance with environmental laws, we use an environmental management system that was implemented in all of our segments and follows the standards of ISO 14001. We established a system to identify, evaluate and update with respect to applicable environmental laws, as well as other requirements applicable to our environmental management system. Our generation and distribution of electricity is submitted to internal and external audits, which verify if our activities are in compliance with ISO 14001. The environmental management of our activities is developed taking into consideration our budgets and realistic forecasts, always aiming to achieve better financial, social and environmental results.
The complex environmental licensing process is being reviewed by the Brazilian government with the cooperation of private sector companies, including us, with a view to expediting the procedures for the granting of licenses for the installation and the operation of infrastructure works that are necessary for the social and economic development of Brazil.
The Brazilian Power Industry
In 2009, the MME approved a ten-year expansion plan under which Brazils installed power generation capacity is projected to increase to 154.6 GW by 2017, of which 117.5 GW (76.0%) is projected to be hydroelectric, 37.1 GW (24.0%) is projected to be thermoelectric and 8.6 GW (6.6%) is projected to be imported through the Interconnected Power System.
In 2009, Eletrobrás owned 38% of Brazilian generation assets. Through its subsidiaries, Eletrobrás is also responsible for 56% of Brazils installed transmission capacity. In addition, it has participation in some Brazilian state-controlled entities involved in the generation, transmission and distribution of electricity. They include, among others, Companhia Hidroelétrica do São Francisco CHESF and Furnas Centrais Elétricas.
In 2009, private companies had 38% and 69% of the market for generation and distribution activities, in terms of total capacity and demand, respectively, and 26% of the transmission market, in terms of revenue.
Principal Regulatory Authorities
Ministry of Mines and Energy MME
The MME is the Brazilian governments primary regulator of the power industry. Following the adoption of the New Industry Model Law, the Brazilian government, acting primarily through the MME, has undertaken certain duties that were previously the responsibility of ANEEL, including the drafting of the guidelines governing the granting of concessions and the issuance of directives governing the bidding process for concessions relating to public services and public assets.
National Energy Policy Council CNPE
The National Energy Policy Council, Conselho Nacional de Política Energética (CNPE), is a committee created in August 1997 to advise the Brazilian President with respect to the development of the national energy policy. The Brazilian Minister of Mines and Energy is the Chairman of the CNPE, six of its members are ministers of the Brazilian government and three of its members are selected by the Brazilian President. The CNPE was created to optimize the use of Brazils energy resources and to ensure the supply of energy to the country.
ANEEL is an independent federal regulatory agency whose primary responsibility is to regulate and supervise the power industry in accordance with the policies set forth by the MME and to respond to matters which are delegated to it by the Brazilian government and the MME. ANEELs current responsibilities include, among others, (i) administering concessions for electric energy generation, transmission and distribution, including the approval of electricity tariffs, (ii) enacting regulations for the electric energy industry, (iii) implementing and regulating the exploitation of energy sources, including the use of hydroelectric power, (iv) promoting the public bidding process for new concessions, (v) settling administrative disputes among electricity generation entities and electricity purchasers and (vi) defining the criteria and methodology for the determination of the transmission tariffs.
National Electrical System Operator ONS
The ONS is a non-profit organization that coordinates and controls electric utilities engaged in the generation, transmission and distribution of electric energy, in addition to other private participants such as importers, exporters, and Free Consumers. The primary role of the ONS is to oversee the generation and transmission operations in the Interconnected Power System, or SIN, subject to ANEELs regulation and supervision. The objectives and principal responsibilities of the ONS include: operational planning for the generation industry, organizing the use of the domestic Interconnected Power System and international interconnections, guaranteeing that all parties in the industry have access to the transmission network in a non-discriminatory manner, assisting in the expansion of the electric energy system, proposing plans to the MME for extensions of the Basic Grid, and submitting rules for the operation of the transmission system for ANEELs approval.
Electric Energy Trading Chamber CCEE
The Electric Energy Trading Chamber, Câmara de Comercialização de Energia Elétrica (CCEE), is a nonprofit organization subject to authorization, inspection and regulation by ANEEL. The CCEE replaced the Wholesale Energy Market, or MAE.
The CCEE is responsible, among other things, for (i) registering all the energy purchase agreements in the Regulated Market, Contratos de Comercialização de Energia no Ambiente Regulado (CCEAR), and registering the agreements resulting from market adjustments and the volume of electricity contracted in the free market, and (ii) the accounting for and clearing of short-term transactions. The CCEE is comprised of holders of concessions and permissions, authorized entities of the electricity industry, Free and Special Consumers and its board of directors is comprised of four members appointed by these agents and one by the MME, which is the chairman of the board of directors.
Energy Research Company EPE
On August 16, 2004 the Brazilian government created the Energy Research Company, Empresa de Pesquisa Energética (EPE), a state-owned company, which is responsible for conducting strategic research on the energy industry, including with respect to electric energy, oil, gas, coal and renewable energy sources. The research carried out by EPE is used by MME in its policymaking role in the energy industry.
Energy Industry Monitoring Committee CMSE
The New Industry Model Law created the Energy Industry Monitoring Committee, Comitê de Monitoramento do Setor Elétrico (CMSE), which acts under the direction of the MME. The CMSE is responsible for monitoring the supply conditions of the system and for indicating the steps to be taken to correct existing problems.
Concessions and Authorizations
The Brazilian constitution provides that the development, use and sale of electric energy may be undertaken directly by the Brazilian government or indirectly through the granting of concessions, permissions or authorizations. Historically, the Brazilian electric energy industry has been dominated by generation, transmission and distribution concessionaires controlled by the Federal or State governments.
The companies or consortia that wish to build or operate facilities for generation, transmission or distribution of electricity in Brazil must apply to the MME or to ANEEL, as representatives of the Brazilian government, for a concession, permission or authorization, as the case may be.
Concessions grant rights to generate, transmit or distribute electricity in the relevant concession area for a specified period, as opposed to permissions and authorizations, which may be revoked at any time at the discretion of MME, in consultation with ANEEL. This period is usually 35 years for new generation concessions, and 30 years for new transmission or distribution concessions. An existing concession may be renewed at the granting authoritys discretion.
The Concession Law establishes, among other things, the conditions that the concessionaire must comply with when providing electricity services, the rights of the consumers, and the obligations of the concessionaire and the granting authority. Furthermore, the concessionaire must comply with regulations governing the electricity sector. The main provisions of the Concession Law are summarized below:
Adequate service. The concessionaire must render adequate service equally with respect to regularity, continuity, efficiency, safety and accessibility.
Use of land. The concessionaire may use public land or request the granting authority to expropriate necessary private land for the benefit of the concessionaire. In such case, the concessionaire shall compensate the affected private landowners.
Strict liability. The concessionaire is strictly liable for all damages arising from the provision of its services.
Changes in controlling interest. The granting authority must approve any direct or indirect change in the concessionaires controlling interest.
Intervention by the granting authority. The granting authority may intervene in the concession, by means of a presidential decree, to ensure the adequate performance of services, as well as the full compliance with applicable contractual and regulatory provisions. Within 30 days after the decree date, the granting authoritys representative is required to commence an administrative proceeding in which the concessionaire is entitled to contest the intervention. During the term of the administrative proceeding, a person appointed pursuant to the granting authoritys decree becomes responsible for carrying on the concession. If the administrative proceeding is not completed within 180 days after the decree date, the intervention ceases and the concession is returned to the concessionaire. The concession is also returned to the concessionaire if the granting authoritys representative decides not to terminate the concession and the concession term has not yet expired.
Termination of the concession. The termination of the concession agreement may be accelerated by means of expropriation and/or forfeiture. Expropriation is the early termination of a concession for reasons related to the public interest that must be expressly declared by law. Forfeiture must be declared by the granting authority after ANEEL or the MME has made a final administrative ruling that the concessionaire, among other things, (i) has failed to render adequate service or to comply with applicable law or regulation, (ii) no longer has the technical, financial or economic capacity to provide adequate service, or (iii) has not complied with penalties assessed by the granting authority. The concessionaire may contest any expropriation or forfeiture in the courts. The concessionaire is entitled to indemnification for its investments in expropriated assets that have not been fully amortized or depreciated, after deduction of any amounts for fines and damages due by the concessionaire.
Expiration. When the concession expires, all assets, rights and privileges that are materially related to the rendering of the electricity services revert to the Brazilian government. Following the expiration, the concessionaire is entitled to indemnification for its investments in assets that have not been fully amortized or depreciated as of the expiration.
Penalties. ANEELs regulation governs the imposition of sanctions against the participants in the electricity sector and classifies the appropriate penalties based on the nature and importance of the breach (including warnings, fines and forfeiture). For each breach, the fines can be up to two per cent of the revenue (net of value-added tax and services tax) of the concessionaire in the 12-month period preceding any assessment notice. Some infractions that may result in fines relate to the failure of the agent to request ANEELs approval including the following: (i) execution of contracts between related parties in the cases provided by regulation; (ii) sale or assignment of the assets related to services rendered as well as the imposition of any encumbrance (including any security, bond, guarantee, pledge and mortgage) on them or any other assets related to the concession or the revenues of the electricity services; and (iii) changes in controlling interest of the holder of the authorization or concession. In cases of contracts executed between related parties that are submitted for ANEELs approval, ANEEL may seek to impose restrictions on the terms and conditions of these contracts and, in extreme circumstances, determine that the contract be rescinded.
Authorizations are unilateral and discretionary act from the granting authority. Such act, in general, and differently from concessions, does not require a public bidding process. As an exception to the general rule, authorizations may also be granted to potential power producers after specific bidding processes for the purchase of power conducted by ANEEL.
In the power generation sector, independent power producers (IPPs) and self generators hold an authorization as opposed to a concession. IPPs and self-generators do not receive public service concessions or permits to render public services. Rather, they are granted authorizations or specific concessions to explore water resources that merely allow them to produce, use or sell electric energy. Each authorization granted to an IPP or self-power producer sets forth the rights and duties of the authorized company. Authorized companies have the right to ask ANEEL to carry out expropriations on their benefit, are subject to surveillance from ANEEL regulators and are subject to ANEELs prior approval in the event of a change in control interest. Moreover, early unilateral termination of the authorization entitles the authorized company to seek compensation from the granting authority for damages suffered.
The IPP may sell part or all of its output to customers on its own account and risk. The self-generator may sell or trade any exceeding energy it is unable to consume, upon specific authorization from ANEEL. IPPs and self-generators are not granted monopoly rights and are not subject to price controls, with the exception of specific cases. The IPPs compete with public utilities and among themselves for large customers, pools of customers of distribution companies or any customers unattended by a public utility.
The New Industry Model Law
Since 1995, the Federal Government has taken a number of measures to reform the Brazilian electric energy industry. These culminated, on July 30 2004, in the enactment of the New Industry Model Law, which further restructured the power industry with the ultimate goal of providing consumers with a secure electricity supply at an adequate tariff.
The New Industry Model Law introduced material changes to the regulation of the power industry, with a view to (i) providing incentives to private and public entities to build and maintain generation capacity and (ii) assuring the supply of electricity within Brazil at adequate tariffs through competitive electricity public bidding processes. The key features of the New Industry Model Law include:
Creation of a parallel environment for the trading of electricity, including: (1) the regulated market, a more stable market in terms of supply of electricity; and (2) a market specifically addressed to certain participants (i.e., Free Consumers and commercialization companies), called the free market, that permits a certain degree of competition.
Restrictions on certain activities of distributors, so as to require them to focus on their core business of distribution, to promote more efficient and reliable services to captive consumers.
Elimination of self-dealing, in order to provide an incentive to distributors to purchase electricity at the lowest available prices rather then buying electricity from related parties.
Respect for contracts executed prior to the New Industry Model Law, in order to provide regulatory stability for transactions carried out before its enactment.
The New Industry Model Law excludes Eletrobrás and its subsidiaries from the National Privatization Program, which is a program originally created by the Brazilian government in 1990 to promote the privatization process of state-owned companies.
Regulations under the New Industry Model Law include, among other items, rules relating to auction procedures, the form of power purchase agreements and the method of passing costs through to Final Consumers. Under these regulations, all electricity-purchasing agents must contract all of their electricity demand under the guidelines of the new model. Electricity-selling agents must provide evidentiary support linking the allotted energy to be sold to existing or planned power generation facilities. Agents that do not comply with such requirements are subject to penalties imposed by ANEEL.
Beginning in 2005, all electricity generation, distribution and trading companies, independent power producers and Free and Special Consumers are required to notify the MME, by August 1 of each year, of their estimated electricity demand or estimated electricity generation, as the case may be, for each of the subsequent five years. Each distribution company will be required to notify the MME, within the 60-day period preceding each electricity auction, of the amounts of electricity that it intends to contract in the auction. Based on this information, the MME must establish the total amount of energy to be contracted in the regulated market and the list of generation projects that will be allowed to participate in the auctions. Distribution companies will also be required to specify the portion of the contracted amount they intend to use to supply consumers qualified as Free Consumers.
Parallel Environment for the Trading of Electric Energy
Under the New Industry Model Law, electricity purchase and sale transactions are carried out in two different segments: (i) the regulated market, which contemplates the purchase by distribution companies through public auctions of all electricity necessary to supply their consumers and (ii) the free market, which contemplates the purchase of electricity by non-regulated entities (such as Free Consumers and energy traders).
Electricity distribution companies fulfill their electricity supply obligations primarily through public auctions. In addition to these auctions, distribution companies will be able to purchase electricity outside the public bidding process from: (i) generation companies that are connected directly to such distribution company, except for hydro generation companies with capacity higher than 30 MW and certain thermo generation companies, (ii) electricity generation projects participating in the initial phase of the Proinfa Program, a program designed to diversify Brazils energy sources, and (iii) the Itaipu power plant. The electricity generated by Itaipu continues to be sold by Eletrobrás to the distribution concessionaires operating in the South/Southeast/Midwest Interconnected Power System, although no specific contract was entered into by such concessionaires. The rates at which the Itaipu-generated electricity is traded are denominated in U.S. dollars and established pursuant to a treaty between Brazil and Paraguay. As a consequence, Itaipu rates rise or fall in accordance with the variation of the U.S. dollar/real exchange rate. Changes in the price of Itaipu-generated electricity are, however, subject to the Parcel A cost recovery mechanism discussed below under Distribution Tariffs.
The Regulated Market
In the regulated market, distribution companies purchase their expected electricity requirements for their captive consumers from generators through public auctions. The auctions are administered by ANEEL, either directly or indirectly through the CCEE.
Electricity purchases are made through two types of bilateral agreements: Energy Agreements (Contratos de Quantidade de Energia) and Capacity Agreements (Contratos de Disponibilidade de Energia). Under an Energy Agreement, a generator commits to supply a certain amount of electricity and assumes the risk that its electricity supply could be adversely affected by hydrological conditions and low reservoir levels, among other conditions, which could interrupt the supply of electricity. In such cases, the generator would be required to purchase the electricity elsewhere in order to comply with its supply commitments. Under a Capacity Agreement, a generator commits to make a certain amount of capacity available to the regulated market. In such case, the generators revenue is guaranteed and the distributors must bear the risk of a supply shortage. Together, these agreements comprise the energy purchase agreements in the Regulated Market, Contratos de Comercialização de Energia no Ambiente Regulado - CCEAR.
According to the New Industry Model Law, electricity distribution entities will be entitled to pass through to their respective consumers all costs related to electricity they purchased through public auction as well as any taxes and industry charges.
With respect to the granting of new concessions, the newly enacted regulations require bids for new hydroelectric generation facilities to include, among other things, the minimum percentage of electricity to be supplied to the regulated market.
The Free Market
The free market covers transactions between generation concessionaires, Independent Power Producers (IPPs), self-generators, energy traders, importers of electric energy, Free Consumers and Special Consumers, as defined below. IPPs are generation entities that sell the totality or part of their electricity to Free Consumers, distribution concessionaires and trading agents, among others. The free market will also include existing bilateral contracts between generators and distributors until they expire. Upon expiration, such contracts must be executed under the New Industry Model Law guidelines.
A consumer that is eligible to choose its supplier (potentially Free Consumer) may only be able to rescind its contract with the local distributor and become a Free Consumer by notifying such distributor at least 15 days before the date such distributor is required to state its estimated electricity needs for the next auction. Further, such consumer may only begin acquiring electricity from another supplier in the year following the one in which the local distributor was notified. Once a potentially Free Consumer has opted for the free market, it may only return to the regulated system once it has given the distributor of its region a five-year notice, provided that the distributor may reduce such term at its discretion. Such an extended period of notice seeks to assure that, if necessary, the distributor could buy the additional energy in the regulated market without imposing extra costs to the captive market.
In addition to Free Consumers, certain consumers with capacity equal to or greater than 500 kW may choose to purchase energy in the free market, subject to certain terms and conditions. These consumers are called Special Consumers. Special Consumers may only purchase energy from (i) small hydroelectric power plants with capacity between 1,000 kW and 30,000 kW, (ii) generators with capacity limited to 1,000 kW, and (iii) alternative energy generators (solar, wind and biomass enterprises) with capacity injected in the system not greater than 30,000 kW. A Special Consumer may terminate its contract with the local distributor with 180 days prior notice for contracts with indefinite terms. For contracts with a definite term, the consumer must fulfill the contract or for long-term contracts, the consumer may terminate its contract with 36 months notice. The Special Consumer may return to the regulated system upon 180 days prior notice to the distributor of its region.
State-owned generators may sell electricity to Free Consumers; however, as opposed to private generators, they are obligated to do so through an auction process.
Auctions on the Regulated Market
Electricity auctions for new generation projects in process are held (i) five years before the initial delivery date (referred to as "A-5" auctions) and (ii) three years before the initial delivery date (referred to as "A-3" auctions). Electricity auctions from existing power generation facilities take place (i) one year before the initial delivery date (referred to as "A-1" auctions) and (ii) approximately four months before the delivery date (referred to as "market adjustments"). The invitations to bid in the auctions are prepared by ANEEL, in compliance with guidelines established by the MME, including the requirement to use the lowest bid as the criterion to determine the winner of the auction.
Each generation company that participates in an auction executes a contract for purchase and sale of electricity with each distribution company, in proportion to the distribution companies respective estimated demand for electricity. The only exception to these rules relates to the market adjustment auction, where the contracts are between specific selling and distribution companies. The CCEAR of both "A-5" and "A-3" auctions have a term of between 15 and 30 years, and the CCEAR of "A-1" auctions have a term between five and 15 years. Contracts arising from market adjustment auctions are limited to a two-year term. The total amount of energy contracted in such market adjustment auctions may not exceed 1.0% of the total amount of energy contracted by each distributor, except for the auctions held in 2008 and 2009, for which the total amount of contracted energy may not exceed 5.0%.
With respect to the CCEAR related to electricity generated by existing generation facilities, there are three alternatives for the permanent reduction of contracted electricity: (i) compensation for the exit of potentially Free Consumers from the regulated market, (ii) reduction, at the distribution companies discretion, of up to 4.0% per year of the annual contracted amount due to market deviations from the estimated market projections, beginning two years after the initial electricity demand was declared and (iii) adjustments to the amount of electricity established in the energy acquisition contracts entered into before March 17, 2004.
Since 2005, CCEE has conducted eight auctions for new generation projects, eight auctions for existing power generation facilities, one auction for alternate generation projects, one auction for generation ventures that use biomass as a source, classified as reserve energy, and finally, one auction for wind power generation, also classified as reserve energy. No later than August 1st of each year, the generators and distributors provide their estimated electricity generation or estimated electricity demand for the 5 subsequent years. Based on this information, the MME establishes the total amount of electricity to be traded in the auction and sets the generation companies that would participate in the auction. The auction is carried out in two phases via an electronic system. As a general rule, the contracts to be executed in the context of the auction have the following terms (i) from 15 to 30 years of the supply start-up in cases of new generation projects, (ii) from 5 to 15 years of the auctions subsequent year in cases of existing power generation facilities, (iii) from 10 to 30 years of the supply start-up in cases of alternate generation projects, (iv) 15 years of the supply start-up in cases of biomass reserve energy and (v) 20 years of the supply start-up in cases of wind power reserve energy.
After the completion of the auction, generators and distributors execute the CCEAR, in which the parties establish the price and amount of the energy contracted in the auction. The CCEAR sets forth that the price will be annually adjusted upon the variation of the IPCA (índice Nacional de Preços ao Consumidor Amplo, calculated and published by Instituto Brasileiro de Geografia e Estatística IBGE). The distributors grant financial guaranties to the generators (mainly receivables from the distribution service) to secure their payment obligations under the CCEAR.
The Annual Reference Value
The regulation also establishes a mechanism, the Annual Reference Value, which limits the amounts of costs that can be passed through to Final Consumers. The Annual Reference Value corresponds to the weighted average of electricity prices in the "A-5" and "A-3" auctions, calculated for all distribution companies.
The Annual Reference Value creates an incentive for distribution companies to contract for their expected electricity demands at the lowest price in the "A-5" auctions and the "A-3" auctions. Distributors that buy electricity at a price lower than the Annual Reference Value in these auctions are allowed to pass through the full amount of the Annual Reference Value to consumers for three years. The Annual Reference Value is also applied in the first three years of the power purchase agreements from new power generation projects. After the fourth year, the electricity acquisition costs from these projects are allowed to be fully passed through. The regulation establishes the following limitations on the ability of distribution companies to pass through costs to consumers: (i) No pass-through of costs for electricity purchases that exceed 103.0% of actual demand; (ii) Limited pass-through of costs for electricity purchases made in an "A-3" auction, if the volume of the acquired electricity exceeds 2.0% of the demand for electricity purchased in the "A-5" auctions; (iii) Limited pass-through of electricity acquisition costs from new electricity generation projects if the volume contracted under the new contracts related to existing generation facilities is lower than 96.0% of the volume of electricity provided for in the expiring contract; and (iv) Full pass-through of costs for electricity purchases from existing facilities in the "A-1" auction is limited to 1% of the charge verified in the year prior to the distributors notification of estimated electricity demand to the MME. If the acquired electricity in the "A-1" auction exceeds the 1.0% of charge, pass-through of costs related to the exceeding charge amount to Final Consumers is limited to 70.0% of the average value of such acquisition costs of electricity generated by existing generation facilities for delivery commencing in 2007 and ending in 2009. The MME establishes the maximum acquisition price for electricity generated by existing projects that take part in the auctions for the sale of electricity to distributors; and, if distributors do not comply with the obligation to fully contract their demand, the pass-through of the costs from energy acquired in the short-term market will be the lower of the spot price, Preço de Liquidação de Diferenças (PLD) and the Annual Reference Value.
Electric Energy Trading Convention
ANEEL Resolutions No. 109, of 2004 and No. 210, of 2006, govern the Electric Energy Trading Convention (Convenção de Comercialização de Energia Elétrica). This convention regulates the organization and administration of the CCEE as well as the conditions for trading electric energy. It also defines, among other things, (i) the rights and obligations of CCEE participants, (ii) the penalties to be imposed on defaulting participants, (iii) the structure for dispute resolution, (iv) the trading rules in both regulated and free markets and (v) the accounting and clearing process for short-term transactions.
Restricted Activities of Distributors
Distributors in the Interconnected Power System are not permitted to (i) conduct businesses related to the generation or transmission of electric energy, (ii) sell electric energy to Free Consumers, except for those in their concession area and under the same conditions and tariffs maintained with respect to captive consumers, (iii) hold, directly or indirectly, any interest in any other company, corporation or partnership or (iv) conduct businesses that are unrelated to their respective concessions, except for those permitted by law or in the relevant concession agreement. Generators will not be allowed to hold equity interests in excess of 10.0% in distributors.
Elimination of Self-Dealing
Since the purchase of electricity for captive consumers is now performed through the regulated market, self-dealing (under which distributors were permitted to meet up to 30.0% of their electric energy needs through energy that was either self-produced or acquired from affiliated companies) is no longer permitted, except in the context of agreements that were approved by ANEEL before the enactment of the New Industry Model Law.
Challenges to the Constitutionality of the New Industry Model Law
Political parties are currently challenging the New Industry Model Law on constitutional grounds before the Brazilian Supreme Court. In October 2007, a decision of the Brazilian Supreme Court on injunctions presented on the matter was published, denying the injunctions by a majority of votes. To date, the Brazilian Supreme Court has not reached a final decision, and we do not know when such a decision may be reached. While the Brazilian Supreme Court is reviewing the New Industry Model Law, its provisions are in effect. Regardless of the Supreme Courts final decision, certain portions of the New Industry Model Law relating to restrictions on distributors engaging in businesses unrelated to the distribution of electricity, including sales of energy by distributors to Free Consumers and the elimination of self-dealing are expected to remain in full force and effect.
If all or a relevant portion of the New Industry Model Law is deemed unconstitutional by the Brazilian Supreme Court, the regulatory scheme introduced by the New Industry Model Law may become void, which will create uncertainty as to how and when the Brazilian government will be able to reform the electric energy sector.
ANEEL had established limits on the concentration of certain services and activities within the electric energy industry, which it recently eliminated. The draft of a new regulation from ANEEL addressing new limitations was released for public consideration.
Tariffs for the Use of the Distribution and Transmission Systems
ANEEL oversees tariff regulations that govern access to the distribution and transmission systems and establish tariffs for these systems. The tariffs are (i) network usage charges, which are charges for the use of the proprietary local grid of distribution companies (TUSD) and (ii) tariffs for the use of the transmission system, which is the Basic Grid and its ancillary facilities (TUST).
The TUSD is paid by generators and Free and Special Consumers for the use of the distribution system of the distribution concessionaire to which the relevant generator or Free or Special Consumer is connected. The amount to be paid by the agent connected to the distribution system is calculated by multiplying the amount of electricity contracted with the distribution concessionaire for each connection point, in kW, by the tariff in R$/kW which is set by ANEEL. The TUSD has two components: (i) the remuneration of the concessionaire for the use of the proprietary local grid, known as TUSD Service, which varies in accordance with each consumers energy peak load, and (ii) the regulatory charges applicable to the use of the local grid, known as TUSD Charges, which are set by regulatory authorities and linked to the quantity of energy consumed by each consumer.
The TUST is paid by distribution companies, generators and Free and Special Consumers for the use of the Basic Grid and is revised annually according to (i) an inflation index and (ii) the annual revenue of the transmission companies, as determined by ANEEL. According to criteria established by ANEEL, owners of the different parts of the transmission grid were required to transfer the coordination of their facilities to the ONS in return for receiving regulated payments from the transmission system users. Network users, including generation companies, distribution companies and free and special Consumers, have signed contracts with the ONS entitling them to the use of the transmission grid in return for the payment of certain tariffs. Other parts of the grid that are owned by transmission companies but which are not considered part of the Basic Grid are made directly available to the interested users for a specified fee.
Distribution tariff rates (including the TUSD) are subject to review by ANEEL, which has the authority to adjust and review these tariffs in response to changes in energy purchase costs and market conditions. When adjusting distribution tariffs, ANEEL divides the costs of distribution companies between (i) costs that are beyond the control of the distributor, or Parcel A costs, and (ii) costs that are under control of distributors, or Parcel B costs. The readjustment of tariffs is based on a formula that takes into account the division of costs between the two categories.
Parcel A costs include, among others, the following factors:
Parcel B costs include, among others, the following factors:
each as established and periodically revised by ANEEL.
The tariffs are established taking into consideration Parcel A and Parcel B costs and certain market components used by ANEEL as reference for adjusting the tariffs.
Electricity distribution concessionaires are entitled to periodic revisions of their tariffs every four or five years. These revisions are aimed at (i) assuring necessary revenues to cover efficient Parcel B operational costs and adequate compensation for investments deemed essential for the services within the scope of each such companys concession and (ii) determining the X factor, which is based on three components: (a) expected gains of productivity from increase in scale, (b) labor costs, and (c) investments. The X factor calculated in the tariff review will be recalculated in the next tariff cycle by changing only the sum of investments carried out, that is, the investments made in permanent service assets. If the investments sum is smaller in the next tariff cycle, the recalculated X factor will be compared against the previous one and the difference between them shall be multiplied in a way that reflects the cost of the resources allocated to the tariff and not used by the concessionaire. The X factor is used to adjust the proportion of the change in the IGP-M index that is used in the annual adjustments. Accordingly, upon the completion of each periodic revision, application of the X factor requires distribution companies to share their productivity gains with Final Consumers.
Each distribution companys concession agreement also provides for an annual adjustment. In general, Parcel A costs are fully passed through to consumers. Parcel B costs, however, are mostly restated for inflation in accordance with the IGP-M index.
In addition, electricity distribution concessionaires are entitled to an extraordinary tariff review (revisão extraordinária) on a case-by-case basis, to ensure their financial stability and compensate them for unpredictable costs, including taxes that significantly change their cost structure.
With the introduction of the New Industry Model Law, the MME has acknowledged that the variable costs associated with the purchase of electric energy may be included by means of the Parcel A Account or CVA, an account created to recognize some of our costs when ANEEL adjusts the tariffs of our distribution subsidiaries. See Item 5Operating and Financial Review and ProspectsOverviewRecoverable Costs VariationsParcel A Costs.
In October 2006, ANEEL established the methodology and procedures applicable to the periodic revisions for 2007 through 2010 for distribution concessionaires, based on the practices developed during a previous round of the periodic tariff reviews. Currently, new regulation from ANEEL aiming at improving the revision process is under public consideration.
Government Incentives to the Energy Sector
In 2000, a Federal decree created the Thermoelectric Priority Program, Programa Prioritário de Termeletricidade (PPT) for purposes of diversifying the Brazilian energy matrix and decreasing its strong dependency on hydroelectric plants. The incentives granted to the thermoelectric power plants included in the PPT are: (i) guaranty of gas supply for twenty years, according to regulations from the MME, (ii) assurance of the costs related to the acquisition of the electric energy produced by thermoelectric power plants will be transferred to tariffs up to the normative value established by ANEEL and (iii) guaranty of access to a BNDES special financing program for the electric energy industry.
In 2002, the Federal Government established the Proinfa Program. Under the Proinfa Program, Eletrobrás purchases the energy generated by alternative energy sources for a period of up to twenty years, and this energy is to be acquired by distribution companies for delivery to Final Consumers. In its initial phase, the Proinfa Program is limited to a total contracted capacity of 3,300 MW. The objective of this initiative is to reach a contracted capacity of up to 10.0% of the total annual consumption of electricity in Brazil within up to 20 years. The energy production for the commercialization in the Program will not be made by generation concessionaires, like us, nor by IPPs. On the other hand, such production may only be made by an autonomous independent producer, which may not be controlled by or affiliated with a generation concessionaire or an IPP, or affiliated with their controlling entities.
In order to create incentives for alternative generators, the Federal Government established a reduction not lower than 50.0% in the TUSD amount owed by (i) small hydroelectric power plants with capacity between 1,000 kW and 30,000 kW, (ii) generators with capacity equal to 1,000 kW and (iii) alternative energy generators (solar, eolic and biomass generators) with capacity equal to 30,000 kW. The reduction is applicable to the TUSD due by the generation source and also by its consumer. The amount of the TUSD reduction will be included as financial components in the tariff readjustment or tariff revision.
The Encargo de Energia de Reserva (EER) is a regulatory charge assessed on a monthly basis designed to raise funds for energy reserves contracted by CCEE. These energy reserves will be used to increase the safety of the energy supply in the Interconnected Power System. The EER was collected from Final Consumers of the Interconnected Power System in March 2009.
RGR Fund and UBP
In certain circumstances, electric energy companies are compensated for certain assets used in connection with a concession if the concession is revoked or is not renewed. In 1971, the Brazilian congress created a reserve fund designed to provide funds for such compensation (RGR Fund). In February 1999, ANEEL revised the assessment of a fee requiring public-industry electric companies to make monthly contributions to the RGR Fund at an annual rate equal to 2.5% of the companys fixed assets in service, not to exceed 3.0% of total operating revenues in any year. In recent years, no concessions have been revoked or have failed to be renewed, and the RGR has been used principally to finance generation and distribution projects. The RGR is scheduled to be phased out by 2010 and ANEEL shall revise the applicable tariffs so such that the consumer will receive some benefit from the termination of the RGR.
The Federal Government has imposed a fee on IPPs similar to the fee levied on public-industry generation companies in connection with the RGR. IPPs are required to make contributions for using a public asset, Uso de Bem Público (UBP) according to the rules of the corresponding public bidding process for the granting of concessions. Eletrobrás received the UBP payments until December 31, 2002. All payments related to the UBP since December 31, 2002 are paid directly to the Federal Government.
Distribution companies (and also some transmission companies responsible for Free Consumers) must contribute to the Conta de Consumo de Combustível (CCC Account). The CCC Account was created in 1973 to generate financial reserves to cover fossil fuel costs in thermoelectric power plants in the event of a rainfall shortage which would require increased use of thermal plants. The CCC currently subsidizes the distribution systems in isolated areas where the distribution costs are higher than in the Interconnected Power System. The annual CCC Account contributions are calculated on the basis of estimates of the cost of fuel needed by the thermoelectric power plants in the succeeding year. The CCC Account is administered by Eletrobrás. The CCC Account, in turn, reimburses electric companies for a substantial portion of the fuel costs of their thermoelectric power plants.
In February 1998, the Federal Government provided for the phasing out of the CCC Account. During the 2003-2006 period, subsidies from the CCC Account were phased out for thermal power plants constructed prior to February 1998 and belonging to the Interconnected Power System. Thermal power plants constructed after that date were not entitled to subsidies from the CCC Account. In April 2002, the Federal Government established that subsidies from the CCC Account would continue to be paid, for a period of 20 years, to those thermoelectric power plants located in isolated systems. As of January 2010, according to Law No. 12,111, the CCC Account reimburses electric companies not only for fuel costs in the isolated systems but also for costs incurred with power, operational activities, maintenance, social contribution and taxes related to the generation of energy.
In 2002, the Federal Government instituted the Electric Energy Development Account, Conta de Desenvolvimento Energético (CDE Account), which is funded through annual payments made by concessionaires for the use of public assets, penalties and fines imposed by ANEEL and the annual fees paid by agents offering electric energy to Final Consumers, by means of a charge to be added to the tariffs for the use of the transmission and distribution transmission systems. These fees are adjusted annually. The CDE Account was created to support (i) the development of energy production throughout Brazil, (ii) the production of energy by alternative energy sources and (iii) the universalization of electric energy services throughout Brazil. The CDE Account will be in effect for twenty-five years and shall be regulated by the executive branch and managed by Eletrobrás.
Resolution no. 173 of November 28, 2005 established a provision for the System Service Charge, Encargo de Serviço do Sistema (ESS), which since January 2006 has been included in price and fee readjustments for distribution concessionaires that are part of the National Interconnected Grid, Sistema Interligado Nacional. This charge is based on the annual estimates made by ONS on October 31 of each year.
Fee for the Use of Water Resources
The New Industry Model Law requires that holders of a concession and authorization to use water resources must pay a fee of 6.75% of the value of the energy they generate by using such facilities. This charge must be paid to the federal district, states and municipalities where the plant or the plants reservoir is located.
ANEEL Inspection Fee (TFSEE)
The ANEEL Inspection Fee is an annual fee due by the holders of concessions, permissions or authorizations in the proportion of their dimension and activities. Currently, the ANEEL Inspection Fee is deducted from the RGR Fund.
Default on the Payment of Regulatory Charges
The New Industry Model Law provides that the failure to pay required contributions to the RGR Fund, Proinfa Program, CDE Account, CCC Account, or certain other payments, such as those due from the purchase of electric energy in the regulated market or from Itaipu will prevent the defaulting party from proceeding with readjustments or reviews of their tariffs (except for extraordinary reviews) and will also prevent the defaulting party from receiving funds from the RGR Fund, CDE Account or CCC Account.
Energy Reallocation Mechanism
Centrally dispatched hydrogenerators are protected against certain hydrological risks by the MRE which attempts to mitigate the risks involved in the generation of hydrological energy by mandating that hydrogenerators share the hydrological risks of the Interconnected Power System. Under Brazilian law, each hydroelectric plant is assigned an assured energy, which is determined in each relevant concession agreement, irrespective of the volume of electricity generated by the facility. The MRE transfers surplus electricity from those generators that have produced electricity in excess of their assured energy to those generators that have produced less than their assured energy. The effective generation dispatch is determined by ONS, which takes into account nationwide electricity demand and hydrological conditions. The volume of electricity actually generated by the plant, either less or in excess to the assured energy, is priced pursuant to a tariff denominated Energy Optimization Tariff which covers the operation and maintenance costs of the plant. This revenue or additional expense will be accounted monthly by each generator.
ITEM 4A. UNRESOLVED STAFF COMMENTS
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS
The following discussion should be read in conjunction with our audited consolidated financial statements and the notes thereto included elsewhere in this annual report. Our financial statements have been prepared in accordance with Brazilian Accounting Principles, which differ in certain respects from U.S. GAAP. Note 35 to our audited consolidated financial statements provides a description of the principal differences between Brazilian Accounting Principles and U.S. GAAP, as they relate to us, and a reconciliation to U.S. GAAP of net income and shareholders equity. See Presentation of Financial Information.
Brazilian Accounting Principles have been undergoing rapid change pursuant to legislation adopted late in 2007. Changes that took effect in 2008 have been given effect in our audited consolidated financial statements, and in the selected financial data presented below, as of and for the years ended December 31, 2009, 2008 and 2007. As from 2010, Brazilian companies are required by Brazilian authorities to prepare their respective financial statements in accordance with IFRS.
Rapid changes in Brazilian Accounting Principles are continuing, as Brazilian accounting standard-setters move toward convergence with IFRS. Many new accounting standards have been adopted and are currently being implemented. Others are expected in the near future. For further details, see note 2.3 to our audited consolidated financial statements. Two aspects of IFRS that could have a material impact on us concern the recognition of regulatory assets and accounting for our concessions.
We are a holding company and, through subsidiaries, we (i) distribute electricity to consumers in our concession areas, (ii) generate electricity and develop generation projects and (iii) engage in electricity commercialization and the provision of electricity-related services. The most important drivers of our financial performance are the operating income margin and cash flows from our regulated distribution business. In recent years, this business has produced reasonably stable margins, and its cash flows, while sometimes subject to short-term variability, have been stable over the medium term.
We have eight distribution subsidiaries, all of which are fully consolidated. We account for five of our generation subsidiaries (CERAN, BAESA, ENERCAN, Foz do Chapecó and Centrais Elétricas da Paraíba EPASA) using the proportionate consolidation method. These entities own a total of eight generation facilities, two of which, Castro Alves and the first generation unit of 14 de Julho (both part of CERAN), became fully operational in June and December 2008, respectively. The second generation unit of 14 de Julho became operational in March 2009 and Foz do Chapecó is scheduled to commence operations in the third quarter of 2010. The thermoelectric power plants, Termoparaíba and Termonordeste, both powered by fuel oil from the EPASA complex, are scheduled to commence operations in the third quarter of 2010.
We have acquired seven generation subsidiaries (Santa Clara I, Santa Clara II, Santa Clara III, Santa Clara IV, Santa Clara V, Santa Clara VI and Eurus VI) in September 2009, which will all be fully consolidated. They were acquired to invest and act as independent producers of electric energy from alternative sources, mainly wind power. They are scheduled to commence operations in July 2012.
Additionally, we established, in October 2009, CPFL Bio Formosa, which will be fully consolidated in our financial statements. The main purpose of CPFL Bio Formosa is the generation of thermoelectric energy through co-generations plants powered by sugar-cane bagasse and straw. It is scheduled to commence operations in July 2011.
We have three broad initiatives to improve our financial performancethe expansion of our generating capacity, the acquisition of additional distributors and the development of our commercialization and electricity-related services business. We have a portfolio of new hydroelectric generation projects, which are becoming operational. Of this new generation capacity, taking into account our share of jointly-owned projects, approximately 117 MW became operational in 2008, approximately 32.5 MW became operational in 2009, and approximately 632 MW are expected to become operational by the end of 2010. We expect a further 228 MW of new generation capacity to become operational by the end of 2012.
There are factors beyond our control that can have a significant impact, positive or adverse, on our financial performance. We face periodic changes in our rate structure, resulting from the periodic revision of our rates. The current cycle of periodic revisions, which took effect during 2007 and 2008 at each of our distribution companies, resulted in the reduction of our average rates, which was the main factor leading to an 18.0% decrease in our operating income in 2008 compared to 2007.
Regulated Distribution Tariffs
Our results of operations are significantly affected by changes in regulated tariffs for electricity. In particular, most of our revenues are derived from sales of electricity to captive Final Consumers at regulated tariffs. In 2009, sales to captive consumers represented 70.1% of the volume of electricity we delivered and 82.6% of our operating revenues, compared to 72.6% and 82.3%, respectively, in 2008. These proportions may decline if consumers migrate from captive to free status.
Our operating revenues and our margins depend substantially on the tariff-setting process, and our management focuses on maintaining a constructive relationship with ANEEL, the Brazilian government and other market participants so that the tariff-setting process fairly reflects our interests and those of our consumers and shareholders. For a description of tariff regulations, see Item 4. Information on the CompanyThe Brazilian Power IndustryDistribution Tariffs and Item 4. Information on the CompanyConsumers, Analysis of Demand and Tariffs.
Tariffs are determined separately for each of our eight distribution subsidiaries as follows:
Tariff increases apply differently to different consumer classes, with generally higher increases for consumers using higher voltages, to reduce the effects of historical cross-subsidies in their favor that were mostly eliminated in 2007. The following table sets forth the average percentage increase in our tariffs resulting from each annual adjustment from 2007 through the date of this annual report. Rates of tariff increase should be evaluated in light of the rate of Brazilian inflation. See BackgroundBrazilian Economic Conditions.
|(1)||This portion of the adjustment primarily reflects the inflation rate for the period and is used as a basis for the following years adjustment.|
|(2)||This portion of the adjustment reflects settlement of regulatory assets and liabilities we record on an accrual basis, primarily the CVA, and is not considered in the calculation of the following years adjustment.|
|(3)||The periodic revision occurred in October 2007 for CPFL Piratininga; February 2008 for CPFL Santa Cruz, CPFL Mococa, CPFL Leste Paulista, CPFL Sul Paulista and CPFL Jaguari; and April 2008 for CPFL Paulista and RGE. Only CPFL Piratininga was subject to an annual adjustment in 2008. Our other distribution companies were not subject to an annual adjustment because they were instead subject to a periodic revision in 2008.|
|(4)||The 2010 annual adjustment is preliminary based on the Addendum to the Concession Contracts, described below.|
|(5)||The annual adjustments of CPFL Paulista, RGE and CPFL Piratininga will occur in April, June and October 2010, respectively.|
On February 2, 2010, ANEEL approved a proposal for an addendum to the concession contracts of the distributors of electric energy (the Addendum to the Concession Contracts). The Addendum to the Concession Contracts changes the methodology for calculating the annual tariff adjustment, excluding the effect of market variations resulting from the difference between the projected and actual energy sold (mainly related to regulatory charges) from the calculation base when calculating the Annual Tariff Adjustment IRT. See, The Brazilian Power Industry Distribution Tariffs for further information on the calculation of our tariffs. We do not expect the new calculation methodology to materially affect our future results or financial condition.
The new methodology was applied in calculating the preliminary tariff adjustments made in February 2010, for the subsidiaries CPFL Santa Cruz, CPFL Jaguari, CPFL Mococa, CPFL Leste Paulista and CPFL Sul Paulista. The remaining distribution subsidiaries will be affected at the time of each tariff adjustment.
The following table sets forth the percentage change in our tariffs resulting from the first and second cycles of periodic revisions. See Note 3(b.1) to our audited consolidated financial statements for related tariff adjustments.
|First cycle||Second cycle|
|CPFL Paulista||April 2003||20.66||April 2008||-14.07||0.07||-14.00|
|CPFL Piratininga||October 2003||10.14||October 2007||-13.50||0.73||-12.77|
|RGE||April 2003||27.96||April 2008||-8.11||10.45||2.34|
|CPFL Santa Cruz||February 2004||17.14||February 2008||-17.05||2.64||-14.41|
|CPFL Mococa||February 2004||21.73||February 2008||-10.41||2.81||-7.60|
|First cycle||Second cycle|
|CPFL Leste Paulista||February 2004||20.10||February 2008||-3.22||1.04||-2.18|
|CPFL Sul Paulista||February 2004||12.29||February 2008||-4.59||-0.60||-5.19|
|CPFL Jaguari||February 2004||- 6.17||February 2008||-3.79||-1.38||-5.17|
Sales to Potentially Free Consumers
The Brazilian government has introduced regulatory changes intended to foster the growth of open-market energy transactions by permitting qualifying consumers to opt out of the system of tariff regulation and become free consumers entitled to contract freely for electricity. See The Brazilian Power IndustryThe Free Market. To date, as compared to the total number of our captive consumers, the number of potentially Free Consumers is relatively small, but they account for a significant amount of our electricity sales and revenues. In 2008 and 2009, approximately 25.1% and 22.9%, respectively, of our electricity sales were to supply potentially Free Consumers. Most of our potentially Free Consumers have not elected to become Free Consumers. We believe this is because (i) they consider the advantages of negotiating for a long-term contract at rates lower than the regulated tariff are outweighed by the need to bear additional costs (particularly transmission costs) and the long-term price risk and (ii) some of our potentially Free Consumers, who entered into contracts before July 1995, are limited to changing to suppliers that purchase from renewable energy sources, such as small hydroelectric power plants or biomass. Even if a consumer decides to migrate from the regulated tariff system and become a Free Consumer, it still has to pay us network usage charges, and such payments would mitigate the loss in operating income from any such migration. We do not expect to see a substantial number of our consumers become Free Consumers, but the prospects for migration between the different markets (captive and free) over the long term, and its implications for our financial results, are difficult to predict.
Prices for Purchased Electricity
The prices of electricity purchased by our distribution companies under long-term contracts executed in the regulated market are (i) approved by ANEEL in the case of agreements entered into before the New Industry Model Law and (ii) determined in auctions for agreements entered into thereafter, while the prices of electricity purchased in the free market are based on prevailing market rates, according to bilateral settlement. In 2009, we purchased 52,538 GWh, compared to 49,331 GWh in 2008. The prices under the long-term contracts are adjusted annually to reflect increases in certain generation costs and inflation. Most of our contracts have adjustments linked to the annual adjustment in distribution tariffs, so that the increased costs are passed through to our consumers in increased tariffs. As an increasing proportion of our energy is purchased at the public auctions, the success of our strategies in these auctions affects our margins and our exposure to price and market risk, since our ability to pass through costs of electricity purchases depends on the successful projection of our expected demand.
We also purchase a substantial amount of electricity from Itaipu under take-or-pay obligations at prices that are governed by regulations adopted under an international agreement. Electric utilities operating under concessions in the Midwest, South and Southeast regions of Brazil are required by law to purchase a portion of Brazils share of Itaipus available capacity. In 2009, we purchased 11,084 GWh of electricity from Itaipu (21.1% of the electricity we purchased in terms of volume), as compared to 11,085 GWh of electricity from Itaipu (22.5% of the electricity we purchased) in 2008. See Item 4. Information of the CompanyPurchases of ElectricityItaipu. The price of electricity from Itaipu is set in U.S. dollars to reflect the costs of servicing its indebtedness. Accordingly, the price of electricity purchased from Itaipu increases in real terms when the real depreciates against the U.S. dollar. The change in our costs for Itaipu electricity in any year is subject to the Parcel A cost recovery mechanism described below. Through our generation subsidiaries, approximately 860 MW of new capacity is scheduled to become operational through 2012, primarily from the commencement of operations of Foz do Chapecó, the Baldin co-generation plant, the Termoparaíba and Termonordeste thermoelectric power plants, CPFL Bio Formosa plants and Santa Clara wind farms, which will provide additional assured energy of 3,899 GWh per year. We expect our margins to be higher to the extent our distribution companies resell electricity generated by our generation subsidiaries, because we will benefit from the generating companies margins.
Most of the electricity we acquired in the free market was purchased by our commercialization subsidiary CPFL Brasil, which resells electricity to Free Consumers and other concessionaries and licensees (including our subsidiaries). In 2009, we acquired 16,180 GWh in the free market, or 30.8% of the electricity we purchased. See The Brazilian Power IndustryThe Free Market.
Recoverable Cost VariationsParcel A Costs
We use the CVA or the Parcel A account to recognize some of our costs in the distribution tariff, referred to as Parcel A costs, that are beyond our control. These costs are described in Note 3(c.3) to our audited consolidated financial statements for the fiscal year ended December 31, 2009. When these costs are higher than the forecasts used in setting tariffs, we are generally entitled to recover the difference through subsequent annual tariff adjustments. This adjustment should eliminate the difference in the income statement that originated from these variations. However, our cash flows may be adversely affected until the amounts under the CVA are received in future years. Similarly, if Parcel A costs are lower than forecast, we generally pass through the savings to consumers through lower tariffs in the future. When there are variations in Parcel A costs that will be reflected in future tariffs, we defer or accrue the incremental costs as necessary, and record them on our balance sheet as the CVA. We will recognize these amounts as expenses when we bill the related increased tariffs. At December 31, 2009, we had assets of R$376 million and liabilities of R$422 million in respect of Parcel A accounts. These amounts accrue interest at a rate based on SELIC, a Brazilian money market rate.
These assets and liabilities may be affected by regulatory determinations. In the first quarter of 2008, ANEEL determined that our subsidiary CPFL Paulista should not be permitted to recover some 2007 energy costs that it had capitalized as a regulatory asset related to Energy surpluses and shortages, on the grounds that the costs should have been avoided by different purchasing practices under a supply contract between CPFL Paulista, our subsidiary CPFL Brasil and the CCEE. The determination was made in the context of the periodic revision of CPFL Paulistas tariffs. To maintain the consistency of the information, our subsidiaries, CPFL Paulista and CPFL Piratininga, reviewed their procedures, including the agreements entered with CPFL Brasil, related to the modulation, making the appropriate accounting adjustments. In relation to the 2009 tariff adjustments of the subsidiaries CPFL Paulista and CPFL Piratininga, ANEEL interpreted the transactions related to the acquisition of electric energy in regards to CCEE in 2008 as voluntary exposure, and therefore provisionally approved the amounts of R$32 million and R$8 million, respectively for CPFL Paulista and CPFL Piratininga of the regulatory asset related to Energy surpluses and shortages, not recognizing the remaining amounts of R$20 million and R$52 million, initially recorded in this context. Although the subsidiaries did not agree with ANEELs decision, they decided to reverse the amounts recorded. For more information, see Note 3.c.5 to our audited consolidated financial statements.
Our three reportable segments are distribution, generation and commercialization. See Note 35(IV)(c) to our audited consolidated financial statements. Our generation and commercialization segments currently represent a small percentage of our gross operating revenues: 2.7% and 8.5% in 2009, 2.7% and 8.4% in 2008, respectively. Our margins have been improving since a number of our energy generation projects became operative in recent years, a trend we expect to continue in the near future. To the extent the new electricity will be sold to our distribution companies, we expect it to have a positive effect on our consolidated operating margin, although, on a consolidated basis, the new generation may not materially increase our operating revenues.
The profitability of our segments differs. Our distribution segment reflects primarily sales to captive consumers at prices determined by the regulatory authority and volume sold varies according to external factors such as weather, income level and economic growth. This segment represents 88.8% of our net operating revenue, but its contribution to our net income is smaller. In 2009, 57.8% of our net income was derived from our distribution activities.
Our generation segment consists in substantial part of new hydroelectric projects, which require a high level of investment in fixed assets, and in the early years there is typically a high level of construction financing. Since these projects became operational, they have resulted in higher margin (operating income as a percentage of revenue) than the distribution segment, but have also contributed to higher interest expenses and other financing costs. For example, in 2009 and 2008 our generation segment provided 30.0% and 23.4%, respectively, of our operating income, but due to the relative significance of the financial expenses incurred to finance these projects, the contribution of operating income, net of non-recuring effects, to net income was significantly reduced. In 2009, 26.6% of our net income was derived from our generation activities.
In our commercialization segment, a majority of our sales and operating income is attributable to transactions with our distribution segment. In 2009, our commercialization segment sold 0.4% more electricity than in 2008 and sales to unaffiliated parties significantly increased by 20.0%, reaching 10.588 GWh. Sales to unaffiliated parties include sales of electricity to Free Consumers and other concessionaries or licensees and the provision of value-added services. This increase in volume of sales represents the strong performance of our commercialization segment. In 2009, 15.5% of our net income was derived from our commercialization activities.
Brazilian Economic Conditions
All of our operations are in Brazil, and we are affected by general Brazilian economic conditions. In particular, the general performance of the Brazilian economy affects demand for electricity, and inflation affects our costs and our margins. The Brazilian economic environment has been characterized by significant variations in economic growth rates, with very low growth from 2001 through 2003 and an economic recovery since 2004.
The following table shows inflation, the change in real gross domestic product and the variation of the real against the U.S. dollar for the years ended December 31, 2009, 2008 and 2007.
|Year ended December 31,|
|Growth (contraction) in real gross domestic product||-0.2%||5.1%||5.4%|
|Depreciation (appreciation) of the real vs. U.S. dollar||-25.5%||31.9%||-17.2 %|
|Period-end exchange rateUS$1.00||R$1.741||R$2.337||R$1.771|
|Average exchange rateUS$1.00(3)||R$1.990||R$1.833||R$1.930|
|Source: Fundação Getúlio Vargas, the Instituto Brasileiro de Geografia e Estatística and the Central Bank.|
|(1)||Inflation (IGP-M) is the general market price index measured by the Fundação Getúlio Vargas.|
|(2)||Inflation (IPCA) is a broad consumer price index measured by the Instituto Brasileiro de Geografia e Estatística and the reference for inflation targets set forth by the CMN.|
|(3)||Represents the average of the commercial selling exchange rates on the last day of each month during the period.|
Inflation primarily affects our business by increasing operating costs and financial expenses to service our inflation-indexed debt instruments. We are able to recover a portion of these increased costs through the Parcel A cost recovery mechanism, but there is a delay in time between when the increased costs are incurred and when the increased revenues are received following our annual tariff adjustments. The amounts owed to us under Parcel A are indexed to the variation of the SELIC rate until they passed through to our tariffs.
Depreciation of the real increases the cost of servicing our foreign currency denominated debt and the cost of purchasing electricity from the Itaipu power plant, a hydroelectric facility that is one of our major suppliers and that adjusts electricity prices based in part on its U.S. dollar costs.
Some external factors may significantly affect our businesses depending on the category of consumers:
Results of Operations2009 compared to 2008
In 2009, our performance showed important progress, in particular given the effects of the global financial crisis in the Brazilian economy. Gross operating revenues increased by 9.2%, reaching R$15,693 million. Net operating revenues reached R$10,566 million, an increase of 9.1%. Our net income reached R$1,286 million, a 0.8% increase compared to 2008.
A key factor for our financial performance was our decision to maintain the strategies established for the period, focusing on the expansion and diversification of our business portfolio, as well as initiatives seeking an increase in the operational efficiency of our companies.
Other factors also played an important role in our economic performance, including the growth of our electricity sales in the captive and free markets; the increase in our generation capacity; the initiatives in our strategic plan to increase efficiency and optimization of our current businesses; the efficiency of our Austerity Plan implemented in the third quarter of 2008, following the first signs of the global financial crisis; and our discipline in managing our financial goals.
Our net operating revenues were R$10,566 million in 2009, a 9.1% increase compared to 2008. The increase was mainly due to a 9.2% increase in our gross operating revenues. The increase in our gross operating revenues primarily reflected higher revenues from wholesalers, attributable to higher prices. An increase in tariffs resulted in an increase of 8.5% in average prices (based on gross operating revenue) of sales to Final Consumers.
To present net operating revenues, we deduct from our operating revenues a variety of taxes and regulatory charges, the most important of which is the value-added tax, or ICMS, imposed by Brazilian states and PIS/COFINS taxes imposed by the Brazilian federal government. These deductions amounted to 32.6% of our gross operating revenues in 2009 and 32.6% in 2008. Most of these taxes and charges are based on the amount of gross operating revenues, while others vary depending on regulatory effects that are included in our tariffs.
Sales to Final Consumers
Our operating revenues from sales to Final Consumers were R$13,497 million in 2009, an 8.2% increase compared to 2008.
Our average prices in 2009 increased in all categories of Final Consumers. Tariffs are adjusted each year, and the month in which the tariff adjustment takes effect varies, with the increases in the largest subsidiaries taking effect in April (CPFL Paulista and RGE), and in October (CPFL Piratininga).
Our higher average prices in 2009 reflected annual adjustments of our eight distribution subsidiaries. The increase in average prices from 2008 to 2009 was 6.9%, 6.5% and 8.5% for residential, commercial and rural consumers, respectively. The increase in average prices for industrial consumers was 8.1%, reflecting contrasting trends in the free market and for captive consumers. The prices in the free market decreased by 6.3%, while prices to captive consumers increased by 9.3%. Industrial consumers in our concession areas who purchase from other suppliers in the free market also pay us for the use of our network, and this revenue is reflected in our consolidated financial statements under Other Operating Revenues.
The stability of our volume of electricity sold to Final Consumers, 41.015 GWh in 2009 compared to 41.118 GWh in 2008, shows different trends for different categories of consumers:
Sales to wholesalers
Operating revenues from sales to wholesalers were R$1,199 million in 2009 (7.6% of our gross operating revenues), an increase of 26.4% compared to 2008. The increase was mainly due to an additional revenue of R$202 million to other concessionaires and licensees, resulting from an increase of 38.2% in the volume of electricity sold.
Other operating revenues
Our other operating revenues were R$1,034 million in 2009 (6.6% of our gross operating revenues), compared to R$1,129 million in 2008. The R$95 million decrease mainly reflects a non-recurring credit of R$110 million recorded in 2008 from a dispute settlement relating to the collection of the TUSD.
Operating Costs and Operating Expenses
Electricity purchased for resale
Our costs to purchase electricity were R$5,360 million in 2009 (64.1% of our total operating costs and operating expenses). The cost was 12.5% higher than in 2008, primarily due to (i) a 6.5% increase in the volume of electricity we purchased, and (ii) a 6.5% increase in the average price for electricity.
The average price for electricity purchased from Itaipu, which represented 21.1% of the volume we purchased in 2009, was on average 18.5% higher in 2009 than in 2008, because of an increase in the tariffs established by ANEEL and an 8.6% increase in the average rate of the dollar in 2009.
The volume of electricity purchased from other generation facilities increased 8.4%. The average prices of electricity sold at these facilities remained constant.
Electricity network usage charges
Our costs for electricity network usage charges were R$1,171 million in 2009. This was 29.6% higher than in 2008, reflecting the deferral and amortization effects of regulatory assets and liabilities, in particular related to the commencement of operations costs of the thermoelectric power plants in 2008.
Other costs and operating expenses
Our other costs and operating expenses (other than electric utility service costs) were R$1,834 million in 2009, a 9.3% increase from 2008. This was due primarily to the effects of inflation, particularly on personnel costs. In addition, we recognized an R$84 million gain on our pension plan assets in 2008, while in 2009, we recorded an actuarial loss of R$4 million as a result of declining value of profitability of certain assets.
Net Financial Expense
Our net financial expense was R$316 million in 2009, compared to R$414 million in 2008. The R$98 million decrease is mainly due to a decrease in the cost of our indebtedness. The net cost of our indebtedness, including interest and indexation and after giving effect to related derivatives, decreased in 2009, primarily because of lower interest rates and inflation indexes offset by a higher level of indebtedness.
At December 31, 2009, we had R$6,329 million in debt denominated in reais, which accrued both interest and monetary correction based on a variety of Brazilian indices and money market rates. We also had the equivalent of R$1,134 million of debt denominated in foreign currencies (U.S. dollars and Japanese yen). In order to reduce the risk of exchange losses with respect to these foreign-denominated debts, we entered into long-term currency swaps for a significant portion of these debts. The rates of index variation were lower in 2009, with the average CDI rate for the year decreasing from 12.3% in 2008 to 9.9% in 2009 and the IGP-M increasing by 1.7% in 2009 compared to 9.8% in 2008.
Income and Social Contribution Taxes
We recorded a net charge of R$584 million for income and social contribution taxes in 2009, compared to R$636 million in 2008. Our effective tax rate of 31.0% on pretax income in 2009 was approximately equal to the combined statutory rate of 34.0%. The effective tax rate is lower than the statutory rate due to tax loss carry forwards based on losses incurred in previous years. Our subsidiaries are not consolidated for tax purposes, and our tax rate may vary from year to year depending on rates attributed to individual subsidiaries.
Due to the above-mentioned factors, our net income was R$1,286 million in 2009, an increase of 0.8%, or R$11 million, compared to 2008.
Results of Operations2008 compared to 2007
Our net operating revenues were R$9,682 million in 2008, a 2.9% increase compared to 2007. The increase was due mainly to a 1.2% increase in our gross operating revenues and a 2.2% reduction in our deductions from operating revenues. The increase in our gross operating revenues primarily reflected higher revenues from our commercialization business and our other sales to wholesalers, attributable to higher prices. This more than offset the effect of lower revenues from sales to Final Consumers in our distribution business, attributable to tariff reductions.
To present net operating revenues, we deduct from our operating revenues taxes and regulatory charges, the most important of which is the value-added tax, or ICMS, imposed by Brazilian states, PIS and COFINS, imposed by the Brazilian government. These deductions amounted to 32.6% of our gross operating revenues in 2008 and 33.8% in 2007. Most of these taxes and charges are based on the amount of gross operating revenues, while others vary depending on regulatory effects that are included in our tariffs. The lower rate of deductions in 2008 was due primarily to a 6.0% reduction in CCC and CDE charges compared to 2007 and lower effects of amortization of regulatory assets.
Sales to Final Consumers
Our operating revenues from sales to Final Consumers were R$12,473 million in 2008, a 2.0% decrease compared to 2007. The stability of our revenues reflected different trends for different categories of consumers:
Sales to wholesalers
Operating revenues from sales to wholesalers were R$948 million in 2008 (6.6% of our gross operating revenues), an increase of 38.9% compared to 2007. The increase was due to sales to other concessionaires and licensees, which increased to R$555 million in 2008 from R$285 million in 2007 due to higher prices and a 32.1% increase in volume.
Other operating revenues
Our other operating revenues were R$1,129 million in 2008 (7.9% of our gross operating revenues), compared to R$1,169 million in 2007. Other operating revenues in 2008 include a one-time credit of R$110 million arising from the settlement of a dispute relating to the collection of the TUSD, which was largely offset by a charge recorded under Electricity Network Usage Charges. The comparison is also affected by a non-recurring credit of R$189 million in 2007. Other factors include a reduction in TUSD charges due to a reduction in the tariff prices charged to Free Consumers and the accounting effects of regulatory assets relating to subsidies for low-income consumers.
Operating Costs and Operating Expenses
Electricity purchased for resale
Our costs to purchase electricity were R$ 4,764 million in 2008 (64.8% of our total operating costs and operating expenses). This was 17.6% higher than in 2007, primarily resulting from (i) a 2.4% increase in the volume of electricity we purchased and (ii) higher prices in both the regulated market and the free market.
The average price for all purchases excluding Itaipu was 14.1% higher in 2008 than in 2007, primarily reflecting the annual adjustment of prices for inflation. The average price for electricity purchased from Itaipu, which represented 22.5% of the volume we purchased in 2008, was 1.5% lower in 2008 than in 2007, because of a reduction in the tariffs established by ANEEL. In the aggregate, we purchased 2.4% more electricity in 2008 because of an increase in volume sold.
In 2008, we also recognized a charge of R$158 million related to Energy surpluses and shortages, which was partially offset by a R$97 million credit related to energy purchased during 2008.
Electricity network usage charges
Our costs for electricity network usage charges were R$904 million in 2008. This was 28.6% higher than in 2007, reflecting (i) a charge of R$98 million in 2008 due to the settlement of a dispute relating to the collection of the TUSD and (ii) the effects of inflation adjustment of usage tariffs.
Other costs and operating expenses
Our other costs and operating expenses (other than electric utility service costs) were R$1,678 million in 2008, a 7.1% decrease from 2007. This was due primarily to the 2007 write-off of our assets relating to the recovery of RTE costs of R$189 million, as discussed above. Other changes in costs and expenses included the effect of inflation, particularly on personnel costs, partially offset by the recognition of gain on our pension plan assets.
Our operating income was R$2,336 million in 2008, compared to R$2,847 million in 2007. This decrease was caused by reductions in our tariff rates throughout 2008.
Net Financial Expense
Our net financial expense was R$414 million in 2008, compared to R$375 million in 2007. The net cost of our indebtedness, including interest and indexation and after giving effect to related derivatives, increased in 2008, primarily because of higher domestic interest rates and a higher level of indebtedness. Our financial revenues also reflected lower recognition of financial income on regulatory assets as the balance of those assets decreased.
At December 31, 2008, we had R$5,357 million in debt denominated in reais, which accrued both interest and monetary correction based on a variety of Brazilian indices and money market rates. We also had the equivalent of R$1,610 million of debt denominated in foreign currencies (U.S. dollars and Japanese yen). In order to reduce the risk of exchange losses with respect to these foreign-denominated debts, we entered into long-term currency swaps for a significant portion of these debts. The rates of index variation were higher in 2008, with the average CDI rate for the year increasing from 11.8% in 2007 to 12.3% in 2008 and the IGP-M increasing by 9.8% in 2008 compared to 7.8% in 2007.
Income and Social Contribution Taxes
We recorded a net charge of R$636 million for income and social contribution taxes in 2008, compared to R$827 million in 2007. Our effective tax rate of 33.1% on pretax income in 2008 was approximately equal to the combined statutory rate of 34.0%. Our subsidiaries are not consolidated for tax purposes, and our tax rate may vary from year to year depending on rates attributed to individual subsidiaries.
Our net income was R$1,276 million in 2008, a decrease of 22.3% compared to 2007, due primarily to the tariff rate reductions which took place throughout 2008, as discussed above.
Our principal capital expenditures in the past several years have been for the maintenance and upgrading of our distribution network and for our generation projects. The following table sets forth our capital expenditures for the three years ended December 31, 2009, 2008 and 2007.
|Year ended December 31,|
|(in millions of reais)|
|CPFL Paulista||R$344||R$ 279||R$ 291|
|Commercialization and other investments||40||11||12|
|Total||R$ 1,356||R$ 1,178||R$ 1,133|
We plan to make capital expenditures aggregating approximately R$1,724 million in 2010 and approximately R$1,454 million in 2011. Of total budgeted capital expenditures over this period, R$2,018 million are expected to be invested in our distribution segment and R$1,160 million in our generation segment. Part of these expenditures, particularly in generation projects, is already contractually committed. See Liquidity and Capital ResourcesFunding Requirements and Contractual Commitments. Planned capital expenditures for development of our generation capacity, and the related financing arrangements, are discussed in more detail under BusinessGeneration of Electricity.
Liquidity and Capital Resources
Funding Requirements and Contractual Commitments
Our capital requirements are primarily for the following purposes:
We make capital expenditures to continue improving and expanding our distribution system and to complete our generation projects. See Capital Expenditures above for a discussion of our historical and planned capital expenditures;
Repayment or refinancing maturing debt. At December 31, 2009, we had outstanding debt maturing during the following 12 months aggregating R$1,331 million;
Dividends on a semiannual basis. We paid R$1,173 million in 2009 and R$1,315 million in 2008. See Item 10. Additional InformationInterest Attributable to Shareholders Equity; and
Funding for acquisitions.
On December 31, 2009, our working capital reflected a deficit (excess of current liabilities over current assets) of R$341 million. A significant cause of this deficit was our provision for dividend payments of R$684 million, which we expect to be mostly eliminated by cash generated from our operating activities in the first semester of 2010 and financings as discussed below.
The following table summarizes our contractual obligations as of December 31, 2009. The table does not include accounts payable reported on our balance sheet.
|Payments due by period|
|Less than||After 5|
|Total||1 year||1-3 years||4-5 years||years|
|(in millions of reais)|
|Contractual obligations as of December 31, 2009:|
|Electricity purchase agreements(2)||104,387||5,753||12,069||13,077||73,488|
|(1)||Not including interest payments on debt or payments under swap agreements. This is the contractual amount and does not include (i) Fair Value adjustments and (ii) offering costs that are different from the book value. We expect to pay approximately R$449 million in interest payments in 2010. Interest payments on debt for years following 2011 have not been estimated. We are not able to determine such future interest payments because we cannot accurately predict future interest rates, our future cash generation, or future business decisions that could significantly affect our debt levels and consequently this estimate. For an understanding of the impact of a change in interest rates applicable to our long-term debt obligations, see Market RiskRisk of Index Variation. For additional information on the terms of our outstanding debt, see Terms of Outstanding Debt.|
|(2)||Amounts payable under long-term energy purchase agreements, which are subject to changing prices and provide for renegotiation under certain circumstances. The table represents the amounts payable for the contracted volumes applying the year-end 2009 price. See BackgroundPrices for Purchased Electricity and Note 32 to our consolidated financial statements.|
|(3)||Amounts due under a contract with the pension plan administrator (see Note 17 to our consolidated financial statements).|
Sources of Funds
Our main sources of funds derive from our operating cash generation and financings.
Net cash provided by operating activities was R$2,422 million in 2009, as compared to R$1,877 million in 2008. The increase mainly reflected the receipt of regulatory assets (CVA and Parcel A). Under our regulatory system, we regularly recover some of our increased costs in one period through tariff adjustments in future periods. This may cause our cash from operations to vary from period to period, even when our net income does not.
Net cash used for investment was R$1,248 million in 2009, as compared to R$1,024 million in 2008. This R$224 million decrease mainly reflects the: (i) acquisition of fixed assets (net and special obligations) in the amount of R$1,172 million for expansion, improvement and maintenance of grids and plants, a 112.7% increase from 2008; (ii) addition of intagibles in the amount of R$93 million during 2009, a 16.9% increase from 2008; and (iii) R$29 million acquisition of interest in EPASA in 2009.
Net cash used for financing activities was R$1,221 million in 2008 and R$439 million in 2009. In 2009, we entered into loan agreements totaling R$2,551 million mainly to be used for the construction of our generation plants, the expansion and refurbishment of our distribution facilities and the extension of the maturity dates of our indebtedness. Some of these loan amounts as well as our operating cash flow were used to repay R$1,811 million of our debt in 2009 and dividends in the amount of R$1,178 million.
The following table sets forth indebtedness for the years ended December 31, 2008 and 2009:
|Secured and fiduciary guarantees||245,691||1,417,938||139,705||614,211|
|Total||R$ 1,196,464||R$ 6,276,458||R$ 1,101,269||R$ 5,927,371|
Our total indebtedness increased R$879 million, or 13.3%, from December 31, 2008 to December 31, 2009, mainly as result of:
financings for our generation subsidiaries under construction (Foz do Chapecó, EPASA, CPFL Bioenergia) and for CPFL Geração (to finance the construction of the Santa Clara wind farms), and
the issuance of debentures in a total amount of R$1,000 million, which we used for refinancing and to extend the maturity of our indebtedness and ownership interest on investments.
In 2008, our distribution companies obtained (i) R$773 million of financing through credit facilities from BNDES, to be used in the expansion and modernization of the electric grids, (ii) a R$1,656 million loan approved by BNDES in July 2007, to be used for the construction of the Foz do Chapecó facility of which R$513 million was disbursed to Foz do Chapecó (of which R$262 million represents CPFL Geraçãos proportional share), and (iii) loans for the construction of other generation plants were obtained. Additionally, in the beginning of 2008, we refinanced short-term debt with longer-term debt, improving the overall maturity profile of our total debt.
During 2010 and 2011, we expect to raise funding mainly to finance our scheduled investments and the refinancing of our debts.
We expect our main source of new financing in 2010 for investment to be loans from BNDES and Banco do Nordeste and debentures issued to fund capital expenditures of our distribution companies and to complete the construction of the Foz do Chapecó plant, the thermoelectric power plant of CPFL Bioenergia, the thermoelectric power plants of Termoparaíba and Termonordeste, the seven wind farms recently acquired and the thermoelectric power plant of CPFL Bio Formosa. The BNDES credit facility for the construction of the Foz do Chapecó thermoelectric plant had an undrawn commitment of R$250 million (of which our share represents R$128 million) as of December 31, 2009. The subsidiary CPFL Bioenergia obtained approval for the BNDES financing in 2009 and has R$30 million available to complete the construction of a thermoelectric power plant of 45 MW generated by sugar cane waste and straw.
Terms of Outstanding Debt
Total debt outstanding at December 31, 2009 (excluding accrued interest and derivative transactions) was R$7,463 million. Of the total amount, approximately R$1,134 million, or 15.2%, was denominated in U.S. dollars and Japanese yen. We have entered into swap agreements in order to reduce our exposure to exchange rates that arises from these obligations.
Our major categories of indebtedness are as follows:
BNDES. At December 31, 2009, we had R$2,634 million outstanding under a number of facilities provided through BNDES. These loans are denominated in reais. The most significant part of these loans relate to (a) loans to our generation projects, especially Foz do Chapecó, CERAN and ENERCAN (R$1,775 million), and (b) financing of investment programs of our subsidiaries, primarily CPFL Paulista, CPFL Piratininga and RGE, through lines of credit under the BNDES FINEM loan facility (R$852 million).
Debentures. At December 31, 2009, we had indebtedness of R$3,250 million outstanding under several series of debentures issued by CPFL Energia, CPFL Paulista, CPFL Piratininga, CPFL Geração, CPFL Leste Paulista, CPFL Sul Paulista, CPFL Jaguari, CPFL Brasil, BAESA and RGE. The terms of these debentures are summarized in Note 16 to our audited consolidated financial statements.
Other real-Denominated Debt. As of December 31, 2009, we had R$445 million outstanding under a number of other real-denominated facilities secured by the revenues of the borrower. The majority of these loans are restated based on CDI or IGP-M, and bear interest at various rates.
Yen-Denominated Debt. CPFL Paulista, RGE and CPFL Geração entered into bilateral loans denominated in yen and converted to reais through swap agreements based on CDI. As of December 31, 2009, the total outstanding principal amounts for these loans were R$475 million for CPFL Paulista and R$553 million for CPFL Geração.
IDB Loan. In January 2005, ENERCAN signed a loan agreement with the Inter-American Development Bank (IDB) for US$75 million to finance the Campos Novos hydroelectric power plant. At December 31, 2009, our pro-rata share of this loan was US$32 million (equivalent at the time to R$55 million). The loan bears interest at a rate of LIBOR plus 3.5% per annum. The repayment terms are spread over 49 quarterly installments, with an initial grace period that ended in June 2007.
Other Foreign-Denominated Debt. At December 31, 2009, we had R$50 million outstanding under other loans denominated in U.S. dollars. We have entered into swap agreements in order to reduce our exposure to exchange rates that arises from these obligations. In addition, we have U.S. dollar- denominated long-term receivables, which amounted to R$28 million at December 31, 2009, which also mitigate our exposure to exchange rates.
Financial and Operating Covenants
We are subject to financial and operating covenants under our financial instruments and those of our subsidiaries. These covenants include the following:
We have limitations on our ability to sell or pledge assets or to make investments in third parties.
Under the BNDES credit facilities, our subsidiaries, including our Campos Novos, Barra Grande, Foz do Chapecó and CERAN generation projects, must first pay the amounts due under the loans before paying dividends in an amount higher than the mandatory dividends under Brazilian law. In addition, before making these dividend payments and before paying interest on shareholders equity, BNDES must give its prior approval, and the respective subsidiary must be in compliance with all of its financial covenants. The concessions for our distribution and generation subsidiaries also prohibit them from making loans or advances to us or to our other subsidiaries and affiliates without approval from ANEEL.
Under the issuance of CPFL Paulista debentures, CPFL Paulista must maintain a ratio of net indebtedness to EBITDA of less than 3.0 and a ratio of EBITDA to financial income (expense), of at least 2.25, with the ratios calculated as defined in the CPFL Paulista debentures.
Under the RGE debentures, RGE must maintain a ratio of net indebtedness to EBITDA of less than 3.0, a ratio of EBITDA to financial expenses of at least 2.0, with the ratios calculated as defined in the RGE debentures.
Under the CPFL Piratininga debentures, CPFL Piratininga must maintain a ratio of net indebtedness to EBITDA of less than 3.0 and a ratio of EBITDA to financial income (expense) of at least 2.25, with the ratios calculated as defined in the CPFL Piratininga debentures.
As a result of the postponement of the commercial start-up of Campos Novos hydroelectric plant, we were not able to meet some time sensitive covenants of the IDB Loan. Enercans management has already entered into discussions with IDB in order to review those covenants, and has obtained a written confirmation that it will not seek acceleration of the loan agreement.
We are currently in compliance with our remaining financial and operating covenants. Breach of any of these covenants would give our lenders the right to accelerate our repayment obligations.
In addition, a number of the financing instruments of our subsidiaries are subject to acceleration if, as a result of changes in our structure or in the structure of our subsidiaries, our current shareholders cease to own a majority of CPFL Energias voting equity or control over management.
For more information on our financial covenants, see Notes 15 and 16 to our audited consolidated financial statements.
Research and Development and Electricity Efficiency Programs
In accordance with applicable Brazilian law, since June 2000 companies holding concessions, permission and authorizations for distribution, generation and transmission of electricity have been required to dedicate a minimum of 1.0% of their net operating revenue each year to research and development and electricity efficiency programs. Small hydroelectric power plant and wind, sun and biomass energy projects are not subject to this requirement. Beginning in April 2007, our distribution concessionaires dedicated 0.5% of their net operating revenue to research and development and 0.5% to electricity efficiency programs, while our generation concessionaries dedicated 1.0% of their net operating revenue to research and development.
Our electricity efficiency program is designed to foster the efficient use of electricity by our consumers, to reduce technical and commercial losses and offer products and services that improve satisfaction and loyalty and enhance our corporate image. Our research and development programs utilize technological research to develop products, which may be used internally, as well as sold to the public. We carry out certain of these programs through strategic partnerships with national universities and research centers, and the vast majority of our resources are dedicated to innovation and development in new technologies applicable to our business.
Our disbursements on research and development projects in 2007, 2008 and 2009 totaled R$116 million, R$79 million and R$156 million, respectively.
Off-Balance Sheet Arrangements
We have guaranteed some of the debt of our proportionately consolidated subsidiaries. These guarantees are generally a proportion of the debt that is no greater than our proportionate ownership share of the subsidiary. However, we have guaranteed the full amount payable of credit facilities of our subsidiary CERAN, while we only report our proportionate 65.0% share of the liabilities on our balance sheet. The outstanding balance of these obligations was R$668 (of which our share represents R$ 434 million) as of December 31, 2009. In 2005 we assumed an obligation to guarantee 57.27% of the amount payable under a US$75 million credit facility of our subsidiary ENERCAN during the construction of its facilities, while we only report our proportionate 48.72% share of the liabilities on our balance sheet. Additionally, in 2007 and 2008 we assumed an obligation to guarantee 60.0% of the amount payable under a R$1,553 (of which our share represents R$792 million in as of December 31, 2009) credit facility of our subsidiary Foz do Chapecó during the construction of its facilities, while we only report our proportionate 51.0% share of the liabilities on our balance sheet. In 2009, we have guaranteed 70.0% of the debentures of our subsidiary EPASA, while we only report our proportionate 51.0% share of the liabilities on our balance sheet. These loans as of December 31, 2009 had an outstanding balance of R$455 million (of which our share represents R$232 million).
As of December 31, 2009, we had no: (i) guarantee obligations (according to U.S. GAAP), other than the CERAN, ENERCAN, Foz do Chapecó and EPASA guarantees described above; (ii) retained or contingent interests in assets transferred to an unconsolidated entity or similar arrangements; (iii) obligations under derivative instruments that are indexed to our common shares and classified in shareholders equity; or (iv) obligations arising out of a variable interest in an unconsolidated entity under U.S. GAAP.
We seek to promote growth in each of our three business segments: distribution, generation and commercialization.
The growth of our distribution segment derives from organic market growth and the acquisition of new companies. Market growth is heavily influenced by economic growth, in particular, an increase in employment, income, retail sector sales and industrial production. In addition, the market is also influenced by the entry of new clients and changes in weather and rainfall volume.
We intend to continue to expand our distribution segment, either through market growth or through the acquisition of energy distribution companies (if there are companies in the market with characteristics and at a price that will be beneficial to us).
The market shows positive signs of growth for 2010. According to projections from the FOCUS report, published on February 26, 2010 by the Central Bank, GDP is expected to grow 5.4% in 2010 and 4.4% in 2011. This growth should be sustained in particular by the recovery of the industry, which was highly affected by the global financial crisis between the end of 2008 and beginning of 2009. Since the second half of 2009, the Brazilian power industry has shown signs of recovery and is expected to grow 8.3% in 2010 and 4.7% in 2011, according to the FOCUS report. Employment, income and sales levels are also expected to increase in 2010, based on the expected growth of the economy as well as due to the weaker levels in 2009.
In addition to our growth strategy, we also intend to increase our operational efficiency and invest in innovation and technology, which are our permanent goals.
Our generation segment has shown high levels of growth in the last few years, with the acquisition and construction of new plants. We have attempted to increase the number of hydroelectric projects and to expand our projects from renewable energy, including wind, biomass and small hydroelectric power plants.
As of December 31, 2009 we had an installed generation capacity of 1,737 MW, which should reach 2,369 MW by the end of 2010, with the opening of the Baldin, Termonordeste and Termoparaíba UTEs and the Foz do Chapecó plant, which represents a growth of 36.4%. In 2011 and 2012, we expect to reach an installed generation capacity of 2,409 MW and 2,597 MW, respectively, when the Baía Formosa plant (2011) and the Santa Clara and Eurus VI wind farms (2012) begin operations.
In the commercialization segment, our main objective is to maintain our leading position, in terms of market share, in the commercialization of energy in the Free Market. In addition, we expect to expand our portfolio of services, retain the loyalty of our free customers and expand our services to new markets.
We have constantly followed a growth strategy since our establishment, which we plan to continue in the future, seeking to maintain synergies, financial discipline, corporate governance, and business sustainability in order to consolidate our strong position in the energy industry.
U.S. GAAP Reconciliation
We prepare our financial statements in accordance with Brazilian Accounting Principles, which differ in significant respects from U.S. GAAP. The differences are described in Note 35 to our audited consolidated financial statements. Net income for 2009 was R$1,288 million under U.S. GAAP, compared to R$1,286 million under Brazilian Accounting Principles. Shareholders equity at December 31, 2009 was R$6,777 million under U.S. GAAP, compared to R$5,083 million under Brazilian Accounting Principles.
The differences between Brazilian Accounting Principles and U.S. GAAP that have the most significant effects on net income and shareholders equity are the following:
Accounting for Acquisitions. Under Brazilian Accounting Principles, acquisitions are accounted for at book value, and the difference between the book value of the purchased companys net assets and the purchase price is
recorded as goodwill and amortized. An impairment test is performed if any condition of an impairment loss is identified. Brazilian Accounting Principles have been adopted late in 2007 and accounting rules for acquisitions may change as well. Under U.S. GAAP, the purchase price of an acquired entity is allocated to assets acquired, including identifiable intangible assets, and liabilities assumed based on their estimated fair values on the date of acquisition. The excess of the cost of an acquired entity over the net of the amount assigned to assets acquired and liabilities assumed is recognized as goodwill. Goodwill is not amortized under U.S. GAAP, subject to an annual assessment for impairment. Since 2009, the amortization of goodwill has no longer been possible in Brazil due to the legislation adopted in 2007. Similar to U.S. GAAP, this process is now subject to an annual assessment for impairment. Under U.S. GAAP we principally allocated the excess purchase price over the fair value of assets acquired and liabilities to the concessions of the acquired companies, which is being amortized over the lives of the concessions. The net effect of these differences tended to make U.S. GAAP net income higher than Brazilian Accounting Principles net income when the amortization of goodwill under Brazilian Accounting Principles occurred over a 10-year period. Under Brazilian Accounting Principles, since 2004 we have been required to amortize goodwill over the lives of our concessions, which tends to increase net income under Brazilian Accounting Principles compared to U.S. GAAP.
Accounting for pension plan liabilities. Another material difference relates to accounting for pension plan liabilities. Under Brazilian Accounting Principles, we use actuarial liability limits in order to improve financial reporting by mitigating volatility in the related income statement. As a result, our financial statements do not account for certain related gains and losses. Under U.S. GAAP, all related gains and losses must be recognized in earnings or as a component of Other Comprehensive Income (OCI).
Use of Estimates in Certain Accounting Policies
In preparing our financial statements, we make estimates concerning a variety of matters. Some of these matters are highly uncertain, and our estimates involve judgments we make based on the information available to us. We have discussed certain accounting policies relating to regulatory matters above, in Background. In the discussion below, we have identified several other matters for which our financial presentation would be materially affected if either (i) we used different estimates that we could reasonably have used or (ii) in the future we change our estimates in response to changes that are reasonably likely to occur.
The discussion addresses only those estimates that we consider most important based on the degree of uncertainty and the likelihood of a material impact if we used a different estimate. There are many other areas in which we use estimates about uncertain matters, but the reasonably likely effect of changed or different estimates is not material to our financial presentation. Please see the notes to our audited consolidated financial statements included herein for a more detailed discussion of the application of these and other accounting policies.
Impairment of Long-lived Assets
Long-lived assets, which include property, plant and equipment, purchased intangible assets and investments comprise a significant amount of our total assets and are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We carry balances on our balance sheet that are based on historical costs net of accumulated depreciation and amortization. We are required under both Brazilian Accounting Principles and U.S. GAAP to evaluate periodically whether these assets are impaired, that is, whether their future capacity to generate cash does not justify maintaining them at their carrying values. If they are impaired, we are required to recognize a loss by writing off part of their value. The analysis we perform requires that we estimate the future cash flows attributable to these assets, and these estimates require us to make a variety of judgments about our future operations, including judgments concerning market growth and other macroeconomic factors as well as the demand for electricity. Changes in these judgments could require us to recognize impairment losses in future periods. Our evaluations in 2009, 2008 and 2007 did not result in any significant impairment of our property, plant and equipment or intangible assets and investments.
Valuation of Deferred Regulatory Assets
As discussed above, we defer and capitalize Parcel A costs that we expect to recover through future rate increases, and in 2001 and 2002 we recognized revenues that we expect to realize in future years pursuant to the RTE. We take this approach under Brazilian Accounting Principles and under U.S. GAAP. This statement provides that rate-regulated entities account for and report assets and liabilities consistent with the recovery of those
costs in rates, if the rates established are designed to recover the costs of providing the regulated service and if the competitive environment makes it probable that such rates can be charged and collected. Certain expenses and revenues subject to utility regulation or rate determination normally reflected in income are deferred on the balance sheet and are recognized in income as the related amounts are included in service rates and recovered from or refunded to consumers. The total amount of net deferred regulatory liabilities reflected in the consolidated balance sheets, including interest we have recognized, was R$167 million at December 31, 2009. See Note 3 to our audited consolidated financial statements. Under U.S. GAAP, we only recognize the deferred revenues to the extent we expect to recover them over the next 24 months.
We are entitled to recover these costs through Brazilian regulations. ANEEL performs a rate review on an annual basis. If ANEEL excludes all or part of a cost from recovery, that portion of the deferred regulatory asset is impaired and is accordingly reduced to the extent of the excluded cost. As of December 31, 2009, the provision for losses upon the realization of regulatory assets was R$8 million. This provision was made based on income projections prepared periodically, taking into account expectations regarding market growth, inflation, interest rates and regulatory matters. See Note 3 to our audited consolidated financial statements for the year ended December 31, 2009.
The deferral and capitalization of expenses, and the recognition and deferral of revenues, in this manner is based on our judgment that we will in fact recover the amounts under future rate increases. If our judgment as to the likelihood of recovery changes, we could be required to recognize an impairment of these regulatory assets.
We sponsor pension plans and disability and death benefit plans covering substantially all of our employees. We account for these benefits in accordance with Brazilian Accounting Principles. The determination of the amount of our obligations for pension benefits depends on certain actuarial assumptions. For further information about the actuarial assumption see note 17 to our audited consolidated financial statements. The total amount of our obligations recognized as expenses in 2009 was R$4 million. The differences between Brazilian Accounting Principles and U.S. GAAP are described in Note 35 to our audited consolidated financial statements.
Deferred Tax Assets and Liabilities
We account for income taxes in accordance with Brazilian Accounting Principles, which are similar to U.S. GAAP, which requires an asset and liability approach to recording current and deferred taxes. Accordingly, the effects of differences between the tax basis of assets and liabilities and the amounts recognized in our financial statements have been treated as temporary differences for the purpose of recording deferred income tax.
We regularly review our deferred tax assets for recoverability. Under Brazilian Accounting Principles, the tax asset is not recognized if it is more likely than not that it will not be realized. Under U.S. GAAP, we establish a valuation allowance based on historical taxable income, projected future taxable income, and the expected timing of the reversals of existing temporary differences. If we are unable to generate sufficient future taxable income, or if there is a material change in the actual effective tax rates or time period within which the underlying temporary differences become taxable or deductible, we could be required to establish a valuation allowance against all or a significant portion of our deferred tax assets resulting in a substantial increase in our effective tax rate and a material adverse impact on our operating results.
Reserves for Contingencies
We and our subsidiaries are party to certain legal proceedings in Brazil arising in the normal course of business regarding tax, labor, civil and other issues.
We account for contingencies in accordance with Brazilian Accounting Principles, which are similar to U.S. GAAP. Such accruals are estimated based on historical experience, the nature of the claims, as well as the current status of the claims. The evaluation of these contingencies is performed by various specialists, inside and outside of the company. Accounting for contingencies requires significant judgment by management concerning the estimated probabilities and ranges of exposure to potential liability. Managements assessment of our exposure to contingencies could change as new developments occur or more information becomes available. The outcome of
the contingencies could vary significantly and could materially impact our consolidated results of operations, cash flows and financial position. Management has applied its best judgment in applying U.S. GAAP to these matters. Beginning in 2007, under U.S.GAAP the company recognizes income tax positions only if those positions are more likely than not of being sustained, as described in Note 35 (III)(m) of our consolidated financial statements.
Depreciation and Amortization of Intangible Assets
We account for depreciation using the straight-line method, at annual rates based on the estimated useful life of assets, as established by ANEEL, in accordance with practices adopted in Brazil. Under U.S. GAAP, our property, plant and equipment are also depreciated using the straight-line method. However, the annual rates used to depreciate these assets are based on remaining useful life in accordance with the most recent appraisal report established for the assets acquired in a business combination. For the assets acquired after that date, the annual rates used to depreciate are those established by ANEEL. When a business combination occurs and the remaining useful life of an asset is changed, it may cause a material adverse impact on our results of operations in the period in which that estimate is revised and in the subsequent periods.
We account for the amortization of intangible assets using a percentage determined in connection with the net projected net income based on the remaining term of the related concession contract determined by ANEEL. Under U.S. GAAP, our intangible assets are amortized using the straight-line method. Intangible assets related to our concessions have a pre-determined useful life and will continue to be amortized in accordance with the criteria adopted by the company and its subsidiaries over such period. Other intangible assets are only amortized if their useful lives can be reasonably estimated.
Recent Accounting Pronouncements in Brazilian Accounting Principles
In compliance with Laws 11,638/07 and 11,941/09 and CVM Decision 457/07, during 2009, the CPC issued and the CVM approved a series of accounting Pronouncements and Instructions, the purpose of which is to bring Brazilian accounting practices into alignment with International Financial Reporting Standards (IFRS). These new Pronouncements are applicable for fiscal years ending in December as from 2010 and to the financial statements of 2009 that are released together with the financial statements of 2010 for comparison purposes.
Up to December 31, 2008, the CVM had approved CPC Pronouncements 01 to 14 and OCPC Guidelines 01 and 02, all of which were analyzed and considered by the Company and its subsidiaries.
All other Pronouncements, Interpretations and Guidelines approved by the CVM in 2009 are currently in the process of being analyzed by the Company and its subsidiaries. The preliminary results of this analysis indicate that the standards that will have the greatest impact on the Financial Statements are:
i. ICPC 01 Concession Contracts: This Interpretation defines the form of accounting for the assets of concessions when certain conditions are met. The Companys preliminary understanding is that this Interpretation is applicable to the concessions relating to electric energy distribution services. The most likely impact on the Financial Statements will be the derecognition of a Fixed Asset and Special Obligations set against (a) recording an Intangible Asset, referring to the right to charge consumers a tariff (right to exploit the concession), and/or (b) a possible recording of a Financial Asset, representing the Companys unconditional right to receive payment.
Due to the complexity of these changes, the Company and its subsidiaries are evaluating the impacts of applying the Interpretation in their Financial Statements; they have also taken part in discussions and debates with other agents from the electric energy sector, regulatory bodies and class associations.
As such, the Company and its subsidiaries evaluate that it is not possible, in the current scenario, to accurately quantify the impact of adopting ICPC Interpretation 01.
ii. CPC 26 Presentation of the Financial Statements: This Pronouncement establishes guidelines and minimum requirements for structure, content and presentation of the financial statements. The Company and
its subsidiaries are examining any possible impacts of this Pronouncement, particularly as regards changes in Financial Statements, such as, for example, the inclusion of Other Comprehensive Income in the Income Statement and the Statement of Changes in Shareholders Equity and separating the participation of controlling shareholders from non-controlling shareholders in these statements.
iii. CPC 27 Property, Plant and Equipment: This Pronouncement establishes the main points to be considered in accounting for a Property, Plant and Equipment, including the composition of the costs and methods permitted for calculating depreciation. The Company and its subsidiaries are also analyzing ICPC Interpretation 10 Understanding Regarding Technical Pronouncements CPC 27 and CPC 28 and the possible impacts on the balance of Property, Plant and Equipment at the transition date.
iv. CPC 33 Employee Benefits: This Pronouncement concerns accounting for and disclosure of the benefits granted to employees. Due to the complexity of the accounting procedures defined in this regulation, the Company and its subsidiaries are analyzing the best alternative accounting methods, as required by the Pronouncement.
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES
Directors and Senior Management
Board of Directors
Our Board of Directors is responsible for determining our overall strategic guidelines and, among other things, for establishing our general business policies and for electing our executive officers and supervising their management. According to our bylaws, our Board of Directors may be comprised of a minimum of seven members and a maximum of nine members. Currently, our Board of Directors is comprised of seven members, and one is independent (in accordance with the listing regulations of the New Market of the BOVESPA, or the Novo Mercado, and our bylaws). In the event of a tie, the chairman will have the deciding vote. The Board of Directors meets at least once a month, or whenever requested by the chairman in accordance with our bylaws.
Under Brazilian Corporate Law, each director must hold at least one of our common shares. Under our bylaws, the board members are elected by the holders of our common shares at the annual general meeting of shareholders. Board members serve one-year terms, re-election being permitted provided that they may be removed at any time by our shareholders at an extraordinary general meeting of shareholders. Our current directors were elected at our general shareholders meeting held on April 23, 2009. Their terms will expire at our next annual shareholders meeting, scheduled to take place on April 20, 2010. Our bylaws do not provide for a mandatory retirement age for our directors.
Under Brazilian Corporate Law, if a director or an executive officer has a conflict of interest with the company in connection with any proposed transaction, the director or executive officer may not vote in any decision of the Board of Directors, or of the board of executive officers, regarding such transaction, and must disclose the nature and extent of the conflicting interest for transcription in the minutes of the meeting. A director or an executive officer may not transact any business with a company, including accepting any loans, except on reasonable or fair terms and conditions that are identical to the terms and conditions prevailing in the market or offered by third parties. Any transaction entered into between our shareholders or related parties and us that exceeds R$7.4 million, as adjusted annually by the IGP-M index, must be previously approved by our Board of Directors. As of this date, there are no relevant agreements or other obligations between us and our directors.
Under Brazilian Corporate Law, combined with a recent decision by the Brazilian Securities Commission, Comissão de Valores Mobiliários (CVM), noncontrolling shareholders have the right to designate at least one member of our board of directors for election to the board, provided that they hold at least 10.0% of the outstanding voting shares. Noncontrolling shareholders that own greater than 5.0% of voting shares may request voto múltiplo (multiple voting).
The following table sets forth the name, age and position of each current member of our Board of Directors. A brief biographical description of each of our directors follows the table.
|Pedro Pullen Parente (*)||57||Chairman|
|Ricardo Carvalho Giambroni||53||Vice Chairman|
|José Ayres de Campos||52||Director|
|Francisco Caprino Neto||49||Director|
|Milton Luciano dos Santos||53||Director|
|Susana Hanna Stiphan Jabra||52||Director|
|Ana Dolores Moura Carneiro de Novaes||48||Independent Director|
|(*) He substituted Mr. Luiz Anibal de Lima Fernandes as from September, 2009.|
Pedro Pullen Parente - Mr. Parente graduated in Engineering from the University of Brasília. Currently, he is the Chairman of Board of Directors of CPFL Energia, and he is also the chief executive officer of Bunge Brasil, a leading company in the food and agribusiness industry in Brazil. He was the executive Vice President of Grupo RBS from 2003 to 2009, and is currently a member of their board of directors. He was also a member of the board of directors of ALL-América Latina Logística and has also served as a board member in over ten companies throughout his career, including Banco do Brasil and Petrobrás. Mr. Parente started his career at Banco do Brasil in 1971 and since then has held many positions in the public sector. In particular, he was State Minister from 1999 to 2002. In addition, he has served as an advisor for the International Monetary Fund and various public institutions in Brazil. Mr. Parente is a member of the Instituto Brasileiro de Ética Concorrencial and is also a fellow at George Washington University. Since September 2009, he has been a member of the Board of Directors of CPFL Energia.
Ricardo Carvalho Giambroni - Mr. Giambroni graduated in Economics from the College of Economic and Political Sciences of Rio de Janeiro (FCPERJ) in 1984. He completed post-graduate studies in Corporate Law and Finance at the Getúlio Vargas Foundation (FGV) in 1999 and an executive MBA program in Corporate Finance and Corporate Governance at the Brazilian Institute of Capital Markets (INSPER, former IBMEC). He participated in the Strategic Management Program for Business Leaders at INSEAD in 2006. He has served as an officer at Valepar S.A., Litel Participações S.A. e Litela Participações S.A., special purpose companies, which hold shares of Vale S.A. (former Companhia Vale do Rio Doce S.A.). He was a member of the Board of Directors of Paranapanema S.A., Companhia Vale do Rio Doce S.A., Brasil Ferrovias S.A. (Ferronorte and Ferroban), Novoeste, and América Latina Logística S.A. (ALL). Currently, he is a member of the Board of Directors of Metrô Rio de Janeiro, BB Carteira Livre I FIA and the executive manager of the Equity Area of Banco do Brasils Caixa de Previdência (PREVI). Since April 2009, he has been a member of the Board of Directors of CPFL Energia.
José Ayres de Campos - Mr. Campos graduated in Mechanical Engineering from the College of Industrial Engineering of São Bernardo do Campo (FEI) in 1982 and in Civil Engineering from the College of Engineering of São Paulo (FESP) in 1985. He completed post-graduate studies in Corporate Economics at the College of Economics and Business Administration of the University of São Paulo (FEA-USP) in 2003. He was a professor at the College of Engineering of Ilha Solteira (UNESP) and FEI. Today Mr. Campos is the CEO of CNEC Engenharia S.A. (Camargo Corrêa Group), where he has structured the Industrial Projects Department to operate in oil, gas and mining sectors, and began Electro-Mechanical Systems Supply Services. He also serves as a director of Construções & Comércio Camargo Corrêa S.A. (CCCC) and member of the Brazilian Committee of the World Energy Council (WEC). Since April 2009, Mr. Campos has been a member of the Board of Directors of CPFL Energia.
Francisco Caprino Neto - Mr. Caprino Neto graduated in Metallurgical Engineering from the Polytechnic School of the University of São Paulo (USP) in 1983 and completed a masters degree program in the same area at the same institution in 1992. He was the chairman of the Process Engineering Department and advisor for the Control and Planning Department of Siderúrgica J.L. Aliperti S.A., as well as and the coordinator of metallurgical processes of Aços Villares S.A. He served as a sitting member of the Board of Directors of the CPFL Paulista, CPFL Piratininga, CPFL Geração and RGE from 2005 to 2006. Currently, he holds the position of executive officer and member of the Board of Directors of Camargo Corrêa Energia S.A. and Camargo Corrêa Investimentos em Infra-Estrutura S.A. (CCII). He is also a member of the Board of Directors of VBC Energia S.A., Usinas Siderúrgicas de Minas Gerais S.A. (USIMINAS), Companhia de Concessões Rodoviárias (CCR), and A-Port S.A. Since April 2000, Mr. Caprino Neto has been a member of the Board of Directors of CPFL Energia.
Milton Luciano dos Santos - Mr. Santos earned a degree in Law from Itajaí Valley University (UNIVALE) in 2001. He also completed an MBA program in General Training for Executive Officers at the University of São Paulo (USP) in 1994. At Banco do Brasil he held the following positions from 1976 to 2009: Assistant Manager, General Manager, State Executive Director, Government Executive Director, Distribution Officer, and Chief Retail and Distribution Officer. Since December 2006, Mr. Santos has been a member of the Board of Directors of CPFL Energia.
Susana Hanna Stiphan Jabra - Mrs. Jabra graduated in Economics from the College of Economics and Business Administration of the University of São Paulo (FEA-USP) in 1979 and participated of the Social Sciences program at the College of Philosophy, Letters and Human Sciences of the University of São Paulo (FFLCHUSP) in 1986. She specialized in Financial Management at the Pontifical Catholic University of São Paulo (PUC-SP) in 1980 and completed an MBA program in Finance at the Brazilian Institute of Capital Markets (IBMEC, currently INSPER) in 1999. For more than 25 years she has worked for large and mid-sized companies and participated in important capital market transactions. She worked as an economist at Banco Itaú S.A., Control and Planning Manager at the Agência Estado Ltda., Executive Equity Manager and member of the Social Responsibility Committee of the Petrobrás Social Security Foundation (PETROS). She was a sitting member of the Board of Directors of CPFL Energia, CPFL Paulista, CPFL Piratininga and CPFL Geração (from 2003 to 2005 and from 2006 to 2007), Telenorte Celular Participações (from 2006 to 2008), Bonaire Participações S.A. (2003 a 2010), and an alternate member of the Board of Directors of Telemig Celular Participações S.A. (from 2003 to 2005), Perdigão S.A. currently BRF Brasil Foods S.A. (2006 a 2011) and Newtel Participações S.A. (from 2004 to 2008), in addition to serving as a member of the Fiscal Council of CPFL Energia, CPFL Paulista, CPFL Piratininga and CPFL Geração (from 2005 to 2006 and 2007 to 2008). Currently, she is an alternate member of the Fiscal Council of Itaú Unibanco Holding S.A., of Contax Participações S.A. and of Fras-Le S.A., a professor for the Course for Board of Directors Members, and guest lecturer at the Debate Forum The Committees of Assistance to the Board of Directors of the Brazilian Institute of Corporate Governance (IBGC). She also participated in the course Training of Trainers, Corporate Governance Board Leadership Program held by the International Finance Corporation (IFC). She is a member of the Board of Directors and Fiscal Council with a certificate from the Brazilian Institute of Corporate Governance (IBGC). She is a partner at HJN Consultoria & Assessoria, a consulting company specialized in financial studies and corporate governance. Since April 2009, Mrs. Jabra has been a member of the Board of Directors of CPFL Energia.
Ana Dolores Moura Carneiro de Novaes - Mrs. Novaes earned a Ph.D. in Economics from the University of California in 1990 and graduated in Law from the Pontifical Catholic University of Rio de Janeiro (PUC-RJ) in 2008. In 1999, she was offered the international professional designation of Chartered Financial Analyst (CFA) by the CFA Institute (formerly known as AIMR - Association for Investment and Management Research) in the United States. Today she is a member of the Board of Directors of the CCR (since May 2002) and Metalfrio (since May 2009) and an advisor to the Audit Committee of the Companhia Siderúrgica Nacional (since August 2006). She held the positions of Investment Officer at Pictet Modal Asset Management (from 1998 to 2003) and Adjustable Rate Analyst at Banco de Investimentos Garantia (from 1995 to 1997). She worked for the World Bank Group in Washington, D.C. from 1991 to 1994 and was a macroeconomics professor at the Pontifical Catholic University of Rio de Janeiro in 2003 and at the Federal University of Pernambuco (in the first half of 1991). Since 2008, she has been a partner at Galanto Consultoria, Rio de Janeiro, specializing in services and consulting in corporate governance. Since April 2007, Mrs. Novaes has been a member of the Board of Directors of CPFL Energia.
Our executive officers are responsible for our day-to-day management. Under our bylaws, our board of executive officers is comprised of seven members that are appointed by our Board of Directors for a two-year term, with the possibility of re-election. Our current executive officers were elected at the Board of Directors meeting held on April 29, 2009.
The following table sets forth the name, age and position of each current executive officer. A brief biographical description of each of our executive officers follows the table.
|Wilson Ferreira Junior||50||Chief Executive Officer|
|Wilson Ferreira Junior (*)||50||Chief Financial Officer and Head of Investor Relations|
|Hélio Viana Pereira||56||Vice-President of Distribution|
|Miguel Normando Abdalla Saad||60||Vice-President of Generation|
|Paulo Cezar Coelho Tavares||56||Vice-President of Energy Management|
|José Marcos Chaves de Melo||47||Vice-President Administrative|
|Adriana Waltrick dos Santos (**)||45||Vice-President of Business Development|
|(*) Interim Chief Financial Officer and Head of Investor Relations|
|(**) Elected at the Board of Directors meeting held on January 27, 2010.|
Wilson Ferreira Junior - Mr. Ferreira Junior graduated from the School of Engineering at Mackenzie University in 1981, with a degree in Electrical Engineering and in 1983 he graduated from the Business Administration course of the College of Economics, Accounting and Administrative Sciences of the same university. He attended a masters degree program in Energy at the University of São Paulo (USP), for which he did not complete the thesis requirements, and several specialization courses, including: Occupational Safety and Health Engineering (Mackenzie University, 1982), Marketing (Getúlio Vargas Foundation FGV, 1988), and Electricity Distribution Management (Swedish Power Co., 1992). At Companhia Energética de São Paulo (CESP), he held several senior positions and served as the Distribution Officer from 1995 to 1998. He served as CEO of RGE from 1998 to 2000, Chairman of the Board of Directors of Bandeirante Energia S.A. from 2000 to 2001, President of the Brazilian Association of Electric Power Distributors (ABRADEE), and Vice President of the Brazilian Association of Infrastructure and Basic Industry (ABDIB). Today, Mr. Ferreira Junior serves as the Chairman of the Board of Directors of the National Electrical System Operator (ONS). In March 2000, he became CEO of CPFL Paulista, and later of CPFL Piratininga, CPFL Geração, CPFL Brasil, RGE, CPFL Santa Cruz, CPFL Jaguariúna, CPFL Bioenergia, and other subsidiaries of CPFL Energia. Since 2002, he has been a member of the Board of Directors of CPFL Paulista, CPFL Piratininga, CPFL Geração, RGE and the CEO of CPFL Energia.
Hélio Viana Pereira - Mr. Pereira graduated in Electrical Engineering from the Itajubá Federal School of Engineering (EFEI) in 1976 and completed a specialization program in Industrial Quality Engineering at the State University of Campinas (Unicamp). He completed post-graduate studies in Electricity Business Management at the Getúlio Vargas Foundation (FGV) and the University of São Paulo (USP). Mr. Pereira served as an engineer in the Eletrobrás Department of Rural Electrification from 1976 to 1978, as an engineer at the Underground Grid Studies Department and as a manager at the Public Lighting Division of the Companhia de Eletricidade de Brasília (CEB) from 1978 to 1981. He held several senior positions and was the Operating Control Supervisor and Operations Manager of Companhia Energética de São Paulo (CESP) from 1984 to 1989. At CPFL Paulista, he served as the Manager of the Planning and Modernization Department from May to August 2000. Today he is the Distribution Officer of CPFL Paulista, CPFL Piratininga, RGE, CPFL Santa Cruz, CPFL Jaguariúna and other distributors of CPFL Energia. He is also a member of the Board of Directors of CPFL Geração. Since 2002, Mr. Pereira has been the Chief Distribution Officer of CPFL Energia.
Miguel Normando Abdalla Saad - Mr. Saad graduated in Civil Engineering from the São Carlos School of Engineering (USP) in 1973. He held several senior positions at Companhia Energética de São Paulo (CESP) from 1974 to 2000, such as Head Engineer of the Concrete Sector of the Civil Engineering Laboratory, Manager of the Water and Thermal Resources Division, assistant manager of the Electrical System Expansion Planning Department, and manager of the Department of Construction and Contracts. From 1994 to 1997, he served as the President of the São Paulo commission of the Brazilian Committee on Large Dams. Mr. Saad is currently the Energy Generation Officer of CPFL Geração, CPFL Bioenergia, CPFL Sul Centrais Elétricas, Chairman of the Board of Directors of ENERCAN, Foz do Chapecó Energia and CERAN, and Vice Chairman of the Board of Directors of BAESA, CPFL Paulista, CPFL Piratininga, and RGE. Since 2002, Mr. Saad has been the Chief Generation Officer of CPFL Energia.
Paulo Cezar Coelho Tavares - Mr. Tavares graduated in Electrical Engineering from the Federal University of Pernambuco (UFPE), completed a masters program in Power Systems Engineering from the State University of Campinas (Unicamp) and an MBA program in Finance from the Brazilian Institute of Capital Markets (IBMEC) in 1998. He served as Energy Planning and Sales Manager and an engineer at Companhia Hidro Elétrica do São
Francisco (CHESF) and as an advisor to the executive management of Eletrobrás, in charge of the National Program for Energy Conservation (PROCEL) and the distribution of urban and rural areas. He also worked as a secretary of PROCEL and led several projects related to energy efficiency with institutions such as the World Bank, USAID, ACEEE, CIDA (Canada), ETSU (United Kingdom) and ALURE (European Community). He served as the CEO of Guaraniana Comércio e Serviços (GCS), a gas and energy commercialization company, and Chief Corporate Development Officer and CEO of Companhia Energética de Pernambuco (CELPE). He has also served as member of the Board of Directors of Companhia Energética de Alagoas (CEAL), Companhia Energética do Rio Grande do Norte (COSERN) and CELPE. Today Mr. Tavares is a member of the Brazilian Association of Energy Traders (ABRACEEL), and Managing Energy Director of CPFL Brasil, CPFL Paulista, CPFL Piratininga, RGE, CPFL Santa Cruz, CPFL Geração, CPFL Bioenergia, CPFL Jaguariúna and other subsidiaries of CPFL Energia. He is a member of the Board of Directors of CERAN, ENERCAN and Foz do Chapecó Energia. Since 2002, Mr. Tavares has been the Chief Energy Management Officer of CPFL Energia.
José Marcos Chaves de Melo - In 1980, Mr. Melo graduated as an electronics technician from the Federal Center for Technological Education of Rio de Janeiro (CEFET-RJ). In 1986, he graduated in Engineering from the University of Kansas. Among his academic achievements, the following stand out: Fulbright scholarship, American National Engineering Honor Society (Tau Beta Pi), the 2005 SAP Diamond Circle Award for Outstanding Business Contributions, and the 2006 Accenture World Innovation Award. Mr. Melo worked at Accenture do Brasil from 1987 to 2008, serving as senior executive from 1998 to 2008. He was responsible for the execution of several projects with companies of the electricity sector for 12 years, oil and gas sectors for 5 years, steel sector for 2 years, and in the manufacturing sector for 1 year. He has experience in several functional areas, such as IT, supply chain, field work and assets management. During his career he has worked for companies such as Neoenergia, Light, CEMIG, Duke Energy, Petrobrás, Repsol-YPF and CSN, the Electric Power Trade Board (CCEE) and ONS. Mr. Melo is currently the Administrative Officer of CPFL Paulista, CPFL Piratininga, RGE, CPFL Santa Cruz, CPFL Jaguariúna, CPFL Geração, CPFL Bioenergia, and other subsidiaries of CPFL Energia. Since 2008, he has been the Chief Administrative Officer of CPFL Energia.
Adriana Waltrick dos Santos - Mrs. Waltrick dos Santos graduated in Business Administration from the Vale do Rio dos Sinos University (UNISINOS) in the State of Rio Grande do Sul in 1989 and also holds an Executive MBA (1992) and Marketing Masters degree (1997) from the Federal University of Rio Grande do Sul (UFRGS). She also holds a MIT Sloan MBA from the Massachusetts Institute of Technology (2009). She has been part of the CPFL group since 1999, having served as the Director of Corporate Strategy and Mergers and Acquisitions of CPFL Energia S.A. from 2001 to 2008 and the Corporate Strategy Manager of RGE from 1999 to 2000. Mrs. Waltrick dos Santos also served as the Corporate Strategy Manager of Rede Brasil Sul de Comunicação Group RBS, from 1997 to 1998, and the International Business Manager of Group Petropar from 1990 to 1994. She was elected the Vice-President of Business Development of CPFL Energia S.A. in January 27, 2010.
Under Brazilian Corporate Law, the Conselho Fiscal, or fiscal council, is a corporate body independent of the management and the companys external auditors. Our fiscal council is permanent, although Brazilian Corporate Law allows fiscal councils to be either permanent or non-permanent and may be composed of a minimum of three and a maximum of five members. The primary responsibility of the fiscal council is to review managements activities and the companys financial statements, and to report its findings to the companys shareholders. Brazilian Corporate Law requires fiscal council members to receive as remuneration at least 10.0% of the average annual amount paid to the companys executive officers, excluding benefits and profit sharing. Noncontrolling holders of common shares owning in aggregate at least 10.0% of the common shares outstanding may also elect one member of the fiscal council.
Under Brazilian Corporate Law, our fiscal council may not include members who are on our Board of Directors, are on the board of executive officers, are employed by us or a controlled company or a company of the same group, or are spouses or relatives of any member of our management or Board of Directors. Our fiscal council elected at our shareholders' meeting held on April 23, 2009, with a mandate of one year, is composed of five members: José Reinaldo Magalhães (President), Daniela Corci Cardoso, Adalgiso Fragoso de Faria, Wilton de Medeiros Daher and Décio Magno Andrade Stochiero.
In accordance with the listed company audit committee rules of the NYSE and the SEC, on June 8, 2005 our Board of Directors designated and empowered our fiscal council to perform the role of the audit committee in reliance on the exemption set forth in Exchange Act Rule 10A-3(c)(3).
The chairperson of each of the following committees reports on activities at the Board of Directors monthly meetings, however, the committees do not have decision-making authority and their recommendations are not binding upon the Board of Directors.
Management Processes Committee. Our Management Processes Committee is responsible for assisting the Board of Directors by: (i) evaluating the validity of the information disclosed to the Board of the Directors, (ii) preparing proposals to improve business management procedures, (iii) evaluating our risk profile and (iv) coordinating internal audits and preparing improvement proposals. The members of this committee are Francisco Caprino Neto, Arthur Prado Silva, and Martin Roberto Glogowsky.
Human Resources Management Committee. Our Human Resources Management Committee is responsible for assisting the Board of Directors by: (i) coordinating the CEO selection process, (ii) defining criteria for compensation of the executive officers, including long and short-term incentive plans, (iii) defining performance goals of the executive officers, (iv) coordinating evaluation procedures of the executive officers, (v) preparation of the plan of succession for members of the executive officers and (vi) monitoring the execution of human resources policies and practices and preparing improvement proposals when necessary. The members of this committee are Francisco Caprino Neto, Ricardo Carvalho Giambroni and Susana Hanna Stiphan Jabra.
Related Parties Committee. Our Related Parties Committee is responsible for assisting the Board of Directors by: (i) evaluating the selection procedures of suppliers and third-party construction and other services from related parties and ensuring these transactions are conducted fairly and consistent with market practice and (ii) evaluating energy purchase or sale agreements with related parties ensuring these transactions are conducted fairly and consistent with market practice. The members of this committee are Francisco Caprino Neto, Luiz Cláudio da Silva Barros and Susana Hanna Stiphan Jabra.
In addition to the advisory committees, our Board of Directors has created six ad hoc commissions since 2006 (Corporate Governance Commission, Strategy Commission, Budget Commission, Financial Services Commission, Energy Acquisition Commission and Projects Evaluation Commission) and may create others.
Strategy Commission. Our Strategy Commission is responsible for assisting the Board of Directors with evaluating and improving our business strategy in order to meet our growth targets and long-term objectives.
Financial Services Commission. Our Financial Activities Commission is responsible for ensuring compliance and efficiency in our existing financial practices, as well as evaluating new opportunities for financial transactions that could benefit the company.
Corporate Governance Commission. Our Corporate Governance Commission is responsible for monitoring the implementation of our new corporate governance model and for suggesting potential improvements to the Board.
Budget Commission. Our Budget Commission is responsible for advising the Board of Directors on analyzing and setting our annual and long-term budgets.
Energy Acquisition Commission. Our Energy Acquisition Commission is responsible for advising the Board of Directors on analyzing the acquisition of energy originated from alternative and competitive sources by the subsidiaries of commercialization.
Projects Evaluation Commission. Our Project Commission is responsible for assisting the Board of Directors with evaluating new opportunities for distribution and generation of energy assets forecasted in the strategic planning.
Under Brazilian Corporate Law, our shareholders are responsible for establishing the aggregate amount we pay to the members of our Board of Directors and our executive officers. Once our shareholders establish an aggregate amount of compensation for our Board of Directors and executive officers, the Human Resources Management Committee of our Board of Directors is then responsible for setting individual compensation levels.
For the year ended December 31, 2009, the aggregate compensation, including cash and benefits-in-kind, that we paid to the members of our Board of Directors, our executive officers and members of our fiscal council was approximately R$17 million, including R$6 million in variable compensation. For the same period, the total amount set aside or accrued by the company to provide pension, retirement or similar benefits was approximately R$549,000.
The approved compensation for our board of directors, board of executive officers and fiscal council for 2010 is R$20 million.
The following tables set forth the compensation from CPFL Energia on a non-consolidated basis of our management for the year ended December 31, 2009 and the approved compensation for 2010. Our directors and officers receive additional compensation from our subsidiaries which is not reflected in these tables.
|Compensation for the year ended December 31, 2009|
|Management Bodies||Directors||Fiscal Council||Officers||Total|
|Number of members||7 members||5 members||6 members|
|Fixed annual compensation:||(in thousands of reais)|
|Direct or indirect benefits|||||||||
|Compensation for participation in committees|||||||||
|Profit sharing plan|||||||||
|Compensation for participation in meetings|||||||||
|Compensation based on stock options|||||||||
|Compensation for each body (1)||861||490||1,122|
|Approved compensation for the year ended December 31,|
|Management Bodies||Directors||Fiscal Council||Officers||Total|
|Number of members||7 members||5 members||7 members|
|Fixed annual compensation:||(in thousands of reais)|
|Direct or indirect benefits|||||||||
|Compensation for participation in committees|||||||||
|Approved compensation for the year ended December 31,|
|Management Bodies||Directors||Fiscal Council||Officers||Total|
|Profit sharing plan|||||||||
|Compensation for participation in meetings|||||||||
|Compensation based on stock options|||||||||
|Compensation for each body (1)||941||647||1,991|
(1) Compensation amounts include charges and accruals.
The table below sets forth the compensation of our management received from our subsidiaries for the year ended December 31, 2009.
|Year ended December 31, 2009|
|(in thousands of reais)|
|CPFL Santa Cruz||||||1,111||86|
|CPFL Leste Paulista||||||151||20|
|CPFL Sul Paulista||||||149||20|
The total number of common shares owned by our directors and executive officers as of March 31, 2010 was 14,871. None of our directors or executive officers beneficially owns one percent or more of our common shares.
Indemnification of Officers and Directors
Neither the laws of Brazil nor our bylaws provide for indemnification of directors or officers. We have held directors and officers liability insurance since February 2006.
As of December 31, 2009, we had 7,450 full time employees (including the employees of our jointly-controlled subsidiaries). The following table sets forth the number of our employees and a breakdown of employees by category of activity as of the dates indicated in each area of our operations.
|As of December 31,|
Part of our employees are members of unions, with which we have collective bargaining agreements. We renegotiate these agreements annually with the 16 principal unions that represent our various employee groups. Salary increases are generally provided for on an annual basis. We believe that we have good relationships with our unions as evidenced by the fact that we have not had any labor strikes during the last 20 years.
We provide a number of benefits to our employees. The most significant is the sponsorship of Fundação CESP, in partnership with ten other electrical companies, which supplements the Brazilian government retirement and health benefits available to the employees of our subsidiaries CPFL Paulista, CPFL Piratininga, CPFL Geração and CPFL Brasil.
In accordance with Brazilian law and our compensation policy, our employees are eligible for our profit sharing program. This amount is set in the collective bargaining agreements of each company, which are adjusted annually. In 2009, we reserved R$38 million for our employee profit sharing program.
In addition, part of each employees compensation is linked to performance goals. Employees are evaluated based on criteria such as quality of work product, adherence to safety protocols and productivity. Our performance evaluation system is designed to evaluate required skill as well, and enables us to evaluate the development of our employees.
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS
The following table sets forth information relating to the beneficial ownership of our common shares by our major shareholders (beneficial owners of 5.0% or more of our common shares) as of December 31, 2009. Percentages in the following table are based on 479,910,938 outstanding common shares.
|BB Carteira Livre I FIA (1)||149,233,727||31.10|
|VBC Energia S.A. (2)||122,948,720||25.62|
|Bonaire Participações S.A. (3)||60,713,511||12.65|
|Bradespar S.A. (4)||25,270,900||5.27|
|BNDES Participações S.A. (5)||40,526,739||8.44|
|Executive officers and directors as a group||6,562||0.00|
BB Carteira Livre I Fundo de Investimentos em Ações is an investment fund that belongs to PREVI, a pension fund sponsored by Banco do Brasil S.A. The Brazilian government owns a majority of the voting capital of Banco do Brasil. During 2009, the shareholder 521 Participações S.A., in compliance with the decision of its final controlling shareholder (Caixa de Previdência dos Funcionários do Banco do Brasil PREVI), restructured its equity interests in order to reduce the administrative and financial costs on its indirect investments and transferred all its shares in the Company to its controlling shareholder, Fundo BB Carteira Livre I Fundo de Investimento em Ações.
VBC Energia S.A. is controlled by the Brazilian group Camargo Corrêa through several companies: (i) Atila Holdings S.A., controlled by Construções e Comércio Camargo Corrêa S.A. and Camargo Corrêa Energia S.A.; (ii) Camargo Corrêa Energia S.A.; (iii) Camargo Corrêa S.A. and; (iv) GCT Participações e Investimentos Ltda. VBC Energia S.A. was also controlled by Votorantim Energia S.A. until January 2009.
Bonaire Participações S.A. is a holding company controlled by Energia São Paulo Fundo de Investimento em Participações, whose ownership interest is controlled by four pension funds: (i) Fundação CESP, primarily for employees of CPFL Energia, Companhia Energética de São Paulo (CESP), Eletropaulo Metropolitana Eletricidade de São Paulo S.A., Bandeirante Energia S.A. and Elektro Eletricidade e Serviços S.A., among other Brazilian electricity companies; (ii) Fundação SISTEL de Seguridade Social, primarily for employees of CPqD (Centro de Pesquisa e Desenvolvimento), Telecomunicações Brasileiras S.A. Telebrás, Telemig Celular S.A., Tele Norte Celular Participações S.A., Amazônia Celular S.A.; among others telecommunications companies; (iii) Fundação Petrobras de Seguridade Social - PETROS, primarily for employees of Petróleo Brasileiro S.A.; and (iv) Fundação SABESP de Seguridade Social SABESPREV, primarily for employees of Companhia de Saneamento Básico do Estado de São Paulo SABESP.
Bradespar S.A. is a beneficial owner of our common shares, which it indirectly holds through Antares Holdings Ltda. and Brumado Holdings S.A.
BNDES Participações S.A. is a subsidiary of BNDES, a federal public bank linked to the Brazilian Ministry of Development, Industry and External Trade.
Voting Rights. Our shareholders agreement, among VBC, PREVI (through BB Carteira Livre I FIA), Bonaire and us, as intervening and consenting party, governs control of CPFL and our subsidiaries. Under the shareholders agreement, certain actions require the approval of at least VBC and PREVI (at least 80.0% of the shares subject to the shareholders agreement), including:
election of the CEO and removal of any executive officer (including the CEO);
definition of the dividend policy;
creation and dissolution of controlled companies;
acquisition and sale of investments in other entities;
approval of our budget;
approval of our business plan;
capital increase within our pre-approved authorized capital and determination of the issuance price of shares;
incurrence of indebtedness including guarantees and collaterals in favor of controlled entities and invested companies beyond the thresholds established in our budget or our business plan;
execution of any agreement with a global amount in excess of R$30 million, if not included in our annual budget;
granting of any kind of collateral or guarantee in favor of third parties;
execution of agreements with related parties in an amount in excess of R$7 million;
appointment of our independent auditors in certain specified cases;
authorization for the acquisition of our own shares for cancellation or for treasury;
amendment of concession agreements of any controlled entity;
approval of stock option plans; and
acquisition, sale or encumbrance of any fixed assets in an amount equal or over R$30 million.
The terms of our shareholders agreement relating to voting rights apply to our controlled companies and, to the fullest extent possible, to our investee companies.
Corporate Governance. Our Board of Directors consists of seven members, appointed as follows:
three appointed by VBC;
two appointed by PREVI;
one appointed by Bonaire; and
one independent, in accordance with the listing regulations of the Novo Mercado.
Our Fiscal Council consists of five members, appointed as follows:
two appointed by VBC;
two appointed by PREVI; and
one appointed by Bonaire.
The number of members of the Board of Directors and the Fiscal Council nominated by each party to the shareholders agreement is related to the current stakes of the parties in the controlling shareholder block. If a change in the stakes of any party in the enjoined shares occurs, the number of members for which such party has the right to nominate shall be adapted to reflect such modification so as to maintain unchanged the number of members nominated by the parties whose stakes relative to the total of enjoined shares have not been altered.
If the noncontrolling shareholders, exercising their rights under the corporate law, elect the independent director required by the Bovespas Novo Mercado Regulations, VBC, PREVI and Bonaire must abstain from proposing a nominee for the position. If the noncontrolling shareholders do not elect the independent director, VBC, PREVI and Bonaire shall by joint accord nominate such an independent director.
The shareholders agreement also establishes the framework of the Board of Directors and Board of Executive Officers of our subsidiaries. According to the agreement, the executive officers of the Company must be part of the Board of Directors of our subsidiaries.
Transfer of Shares. Our shareholders agreement provides for certain rights and obligations in the event of transfer of shares subject to the shareholders agreement, or subject shares, including:
Right of First Refusal. The parties to the shareholders agreement have a right of first refusal to acquire subject shares in the event one of them decides to sell its shares to a third party.
Tag-along Rights. A party that decides not to exercise its right of first refusal has the option to sell (pro rata), together with the selling party, its subject shares to the acquiring third party. Tag-along provisions do not apply to the disposition of subject shares by Bonaire while its stake within the controlling block is lower than 20.0%.
Preemptive Rights. The parties have pro rata preemptive rights to subscribe for shares in the event of a capital increase.
Tag-along Rights of Bonaire. In the event of a sale, assignment or transfer of subject shares by PREVI and VBC that results in an equity percentage lower than 20.0% and 30.0%, respectively, of the aggregate subject shares and, as long as Bonaire has not exercised its right of first refusal, it will have the right to sell its entire stake of subject shares together with PREVI or VBC, under the same terms and conditions.
Change of Control. In the event of direct or indirect change of control of any of the parties subject to the shareholders agreement, the remaining parties have the right to acquire all subject shares held, directly or indirectly, by the party undergoing the change of control, paying for such shares an amount to be determined by a recognized financial institution.
Our controlling shareholders are also party to an agreement pursuant to which they have granted to each other options to purchase their respective shares in us. In addition, this agreement provides for (i) certain notification requirements for secondary offerings of shares by such shareholders and (ii) priority to certain shareholders in the sale of shares in a secondary offering, if more than one shareholder participates in the offering and demand is less than the size of the offering.
Related Party Transactions
One of our principal shareholders is VBC. The controlling shareholder of VBC currently is the Camargo Corrêa Group and prior to January 2009 both Camargo Corrêa and the Votorantim Group were controlling shareholders. Camargo Corrêa Group is one of the largest privately-held industrial conglomerates in Brazil, with controlling equity interests in leading Brazilian engineering and construction, cement, footwear, and textiles companies. Camargo Corrêa Group also shares equity control of important Brazilian steel and highway concession companies, and it has equity participations in a significant Brazilian financial conglomerate and in a global aluminum company.
We acquired our interest in Semesa from VBC in December 2001 for R$496 million. The Semesa acquisition price is subject to adjustment, based on the assessment of Semesas assured energy. According to MME, the earliest that this assessment will take place is 2015.
We also conduct transactions with the shareholders of VBC and their affiliates, including the following:
Our distribution subsidiaries have entered into agreements for the supply of electricity with several entities affiliated with our shareholders. All of these electricity supply agreements are regulated by ANEEL.
Our commercialization subsidiaries have entered into agreements for the supply of electricity with several entities affiliated with our shareholders.
CPFL Geração, through its subsidiaries BAESA, ENERCAN, CERAN and Foz do Chapecó, has entered into transactions with Construção e Comércio Camargo Corrêa S.A., a member of the Camargo Corrêa Group, for the provision and financing of construction services to our generation subsidiaries.
Our subsidiaries CPFL Paulista, CPFL Piratininga, CPFL Geração and CPFL Brasil are sponsors of a pension fund administered by Fundação CESP, a pension fund services company that has an indirect ownership interest in one of our shareholders, Bonaire. See Note 29 of our Financial Statements concerning Related Party Transactions.
ITEM 8. FINANCIAL INFORMATION
Consolidated Statements and Other Financial Information
See Item Financial Statements.
CPFL Paulista and CPFL Piratininga are parties to numerous lawsuits brought by industrial consumers alleging that certain tariff increases in the past were illegal in view of then prevailing economic regulations that had established a price freeze that included electricity tariffs. The aggregate potential liability was approximately R$89 million as of December 31, 2009. Superior courts have already decided many of these lawsuits partially against us, and as a result, we have provisioned the aggregate potential liability (approximately R$12 million) in respect of these suits.
CPFL Paulista is a defendant in a civil public action filed by the Campinas Consumer Protection Office (Promotoria de Defesa do Consumidor). The purpose of this civil public action is to suspend the effects of the tariff readjustment authorized by ANEEL for the year ended December 31, 2009. CPFL Paulista obtained a preliminary suspension of the effects. An appeal still awaits final decision and, until then, the effects from the tariff readjustment authorized by ANEEL remain in force. We believe that the risk of loss is remote.
CPFL Piratininga received a tax infraction notice regarding improper tax deductions from payments made to the Fundação CESP’s pension fund. These payments originated from an agreement executed to pay a debt from Fundação CESP’s pension fund. The defense did not present a plea yet, however, we believe that the possibility of loss is possible.
CPFL Piratininga filed an annulment action concerning an ICMS fiscal debt against a notice of infraction and fee drawn by the state of São Paulo questioning the companys tax calculation method regarding the energy supply to two cities in the state. The risk of loss is possible and the amount is of approximately R$101 million.
We are also subject to legal proceedings relating to the authorization of certain of our hydroelectric plants, including a class action proposed by the federal public attorneys office of the Municipality of Caxias do Sul challenging the validity of the environmental licensing of the Rio das Antas Hydroelectric Complex, and requesting injunctive relief against the construction of these plants. The federal public attorneys injunction request was denied in the lower courts and the district attorney moved against the denial, requesting a new injunction from the higher courts. The higher courts denied the injunction relief. No decision on the merits has been taken by the lower courts to date. We believe that the possibility of a loss is remote.
Semesa and Furnas were named defendants in a legal proceeding that sought remedial measures and the establishment of a nature reserve because of alleged harm caused by the construction and operation of the Serra da Mesa plant. The amount sought from Semesa totaled R$74 million. CPFL Geração assumed all of the outstanding obligations and potential liabilities of Semesa in March 2007. We believe that the risk of an adverse judgment with respect to this claim is possible. We have not established a provision with regard to this claim. If adverse judgment were entered against us, requiring us to purchase additional land and establish a preserve in the area surrounding our generation activities, the costs would be reflected in our property, plant and equipment.
CPFL Paulista is involved in a lawsuit challenging the deductibility of expenses recognized in 1997 related to a deficit from Fundação CESPs pension fund. Based on a favorable opinion that we received from the Brazilian Internal Revenue Office, CPFL Paulista deducted those expenses for purposes of income tax payments. In 2007, we made a judicial deposit in the amount of R$360 million (adjusted to R$450 million in 2009), which allows CPFL Paulista to proceed with the lawsuit without assuming the risk of any asset seizure by the tax authority. This deductibility also resulted in other lawsuits, and CPFL Paulista to raise defenses also entered into an agreement with a Brazilian bank to provide letters of credit through which the bank will guarantee an amount of R$228 million (adjusted to R$281 million in 2009). We believe that the possibility of loss is remote.
We establish reserves in our balance sheets relating to potential losses from litigation based on estimates of such losses. For this purpose, we classify such losses as remote, possible or probable. Brazilian Accounting Principles and Brazilian law require us to establish reserves in connection with probable losses and therefore, it is our policy to establish reserves only in connection with those claims. As of December 31, 2009, our reserves for contingencies were approximately R$178 million. Our management believes that these proceedings will not have a material adverse effect on our financial condition, either individually or in the aggregate. See Note 20 to our audited consolidated financial statements for more information on the status of our litigation.
For our policy on dividend distributions, see Item 10. Additional InformationAllocation of Net Income and Distribution of Dividends.
ITEM 9. THE OFFER AND LISTING
Our common shares are listed on the BM&FBOVESPA, and our ADSs are listed on the New York Stock Exchange. Each ADS represents three shares. The ADSs commenced trading on the NYSE on September 29, 2004. As of December 31, 2009, the ADSs represented 5.3% of our shares and 17.6% of our current global public float.
The table below sets forth reported high and low closing sale prices in reais per common share for the periods indicated. The table also sets forth prices in U.S. dollars per ADS based on information available from the New York Stock Exchange. See "Item 3. Key InformationExchange Rates for information with respect to exchange rates applicable during the periods indicated below.
|Reais per||U.S. dollars per|
Corporate Governance Practices
In 2000, the BOVESPA introduced three special listing segments, known as Level 1, Level 2 and the Novo Mercado, aiming at fostering a secondary market for securities issued by Brazilian companies with securities listed on the BOVESPA, by prompting such companies to follow good practices of corporate governance. The listing segments were designed for the trading of shares issued by companies voluntarily undertaking to abide by corporate governance practices and disclosure requirements in addition to those already imposed by Brazilian law. These rules generally increase shareholders rights and enhance the quality of information provided to shareholders and stakeholders.
In order to maintain high standards of corporate governance, we have signed an agreement with the BOVESPA to list our securities on the Novo Mercado.
In accordance with Section 303A.11 of the NYSE Listed Company Manual, we have posted a summary of significant differences between the NYSE corporate governance standards and our corporate governance practices on our website, at http://www.cpfl.com.br/ir.
ITEM 10. ADDITIONAL INFORMATION
Memorandum and Articles of Incorporation
Our corporate purpose, as defined by our bylaws, includes:
developing and fostering enterprises in the electricity generation, distribution, transmission, sale industry and related activities;
providing services in the electricity, telecommunications and data transmission industries, as well as providing technical, operating, administrative and financial support services, especially to affiliated or subsidiary companies; and
holding interest in the capital of other companies engaged in activities similar to those that we perform or which have as corporate purpose developing, fostering, building, and/or operating projects concerning electricity generation, distribution, transmission and related services.
Qualification of Directors
Brazilian law provides that only shareholders of a company may be appointed to its board of directors, but there is no minimum share ownership or residency requirement for qualification as a director. Members of our board of executive officers must be Brazilian nationals and resident in Brazil. Our directors and executive officers are prevented from voting on any transaction involving companies in which they hold more than 10.0% of the total capital stock or of which they have held a management position in the period immediately prior to their taking office.
Allocation of Net Income and Distribution of Dividends
The discussion below summarizes the provisions of Brazilian law regarding the establishment of reserves by corporations and the distribution of dividends, including interest attributed to shareholders equity.
Brazilian Corporate Law generally requires that the bylaws of each Brazilian corporation specify a minimum percentage of the amounts available for distribution by such corporation for each fiscal year that must be distributed to shareholders as dividends, also known as the mandatory distribution.
The mandatory distribution is based on a percentage of adjusted net income, not lower than 25.0%, rather than a fixed monetary amount per share. Under our bylaws, at least 25.0% of our adjusted net income, as calculated under Brazilian Accounting Principles and adjusted under Brazilian Corporate Law, for the preceding fiscal year must be distributed as a mandatory annual dividend. Adjusted net income means the distributable amount before any deductions for statutory reserves and reserves for investment projects.
Brazilian Corporate Law permits the suspension of the mandatory distribution of dividends in any fiscal year in which the management bodies report to the shareholders meeting that the distribution would be inadvisable in view of the companys financial condition. The suspension is subject to approval by the shareholders meeting and review by members of the fiscal council. The law does not establish the circumstances in which payment of the mandatory dividend would be inadvisable based on the companys financial condition. In the case of publicly-held corporations, the board of directors must file a justification for such suspension with the CVM within five days of the relevant general meeting. If the mandatory distribution is not paid, the unpaid amount must be attributed to a special reserve account. If not absorbed by subsequent losses, those funds must be paid out as dividends as soon as the financial condition of the company permits. Under Brazilian Corporate Law, the shareholders of a publicly-held company may also decide to distribute dividends in an amount lower than the mandatory distribution.
Payment of Dividends
We are required by Brazilian Corporate Law to hold an annual general shareholders meeting by no later than April 30 of each year, at which the shareholders have to decide on the payment of an annual dividend. Additionally, interim dividends may be declared by our Board of Directors. Pursuant to our charter, we are required to pay a mandatory annual dividend of at least 25.0% of our adjusted net income. Any holder of record of shares at the time of a dividend declaration is entitled to receive dividends. Dividends on shares held through a depositary are paid to the depositary for further distribution to the shareholders. Under Brazilian Corporate Law, dividends are generally required to be paid to the holder of record on a dividend declaration date within 60 days following the date the dividend was declared, unless a shareholders resolution sets forth another date of payment, which, in either case, must occur prior to the end of the fiscal year in which such dividend was declared. Pursuant to our bylaws, unclaimed dividends do not bear interest, are not monetarily adjusted and revert to us three years after the date when we begin to pay such declared dividends.
In general, shareholders who are not residents of Brazil must register their equity investment with the Central Bank to have dividends, sales proceeds or other amounts with respect to their shares eligible to be remitted outside of Brazil. The common shares underlying the ADSs are held in Brazil by Banco Bradesco S.A., as the custodian for the depositary, that is the registered owner on the records of the registrar for our shares. The current registrar is Banco Bradesco S.A. The depositary registers the common shares underlying the ADSs with the Central Bank and, therefore, is able to have dividends, sales proceeds or other amounts with respect to the common shares remitted outside Brazil.
Payments of cash dividends and distributions, if any, are made in reais to the custodian on behalf of the depositary, which then converts such proceeds into U.S. dollars for distribution to holders of ADSs. In the event that the custodian is unable to convert immediately the Brazilian currency received as dividends into U.S. dollars, the amount of U.S. dollars payable to holders of ADSs may be adversely affected by depreciations of the Brazilian currency that occur before the dividends are converted. Dividends paid to persons who are not Brazilian residents, including holders of ADSs, are not subject to Brazilian withholding tax, except for dividends declared based on profits generated prior to December 31, 1995, which are subject to Brazilian withholding income tax at varying tax rates. See TaxationBrazilian Tax Considerations.
Holders of ADSs have the benefit of the electronic registration obtained from the Central Bank, which permits the depositary and the custodian to convert dividends and other distributions or sales proceeds with respect to the common shares represented by ADSs into foreign currency and remits the proceeds outside of Brazil. In the event the holder exchanges the ADSs for common shares, the holder will be entitled to continue to rely on the depositarys certificate of registration for five business days after the exchange. Thereafter, in order to convert foreign currency and remit outside Brazil the sales proceeds or distributions with respect to the common shares, the holder must obtain a new certificate of registration in its own name that will permit the conversion and remittance of such payments through the foreign exchange market.
If the holder is not a duly qualified investor and does not obtain an electronic certificate of foreign capital registration, a special authorization from the Central Bank must be obtained in order to remit from Brazil any payments with respect to the common shares through the foreign exchange market. Without this special authorization, the holder may currently remit payments with respect to the common shares through the floating rate exchange market, although no assurance can be given that the floating rate exchange market will be accessible for these purposes in the future.
In addition, a holder who is not a duly qualified investor and who has not obtained an electronic certificate of foreign capital registration or a special authorization from the Central Bank may remit these payments by international transfer of Brazilian currency pursuant to CMN Resolution No. 3,265, dated March 4, 2005, and Central Bank Circular No. 3,280, dated March 9, 2005, as amended. In order to effect the international transfer of Brazilian currency the holder must have a special non-resident bank account in Brazil, through which the subsequent conversion of such Brazilian currency into U.S. dollars is effected.
Under current Brazilian legislation, the Brazilian government may impose temporary restrictions of foreign capital abroad in the event of a serious imbalance or an anticipated serious imbalance of Brazils balance of payments (see Item 3. Key InformationRisk FactorsRisks Relating to the ADSs and Our Common Shares).
Interest Attributable to Shareholders Equity
Under Brazilian tax legislation, Brazilian companies are permitted to pay interest to holders of equity securities and treat such payments as an expense for Brazilian income tax purposes and for social contribution purposes. Payment of such interest may be made at the discretion of our Board of Directors, subject to the approval of the shareholders at a general shareholders meeting. In order to calculate this interest on shareholders equity, the TJLP is applied to shareholders equity for the applicable period. The amount of any such notional interest payment to holders of equity securities is generally limited in respect of any particular year to the greater of:
50.0% of net income (after the deduction of the provisions for social contribution on net profits but before taking into account the provision for corporate income tax and the interest attributable to shareholders equity) for the period in respect of which the payment is made; or
50.0% of the sum of retained earnings and profit reserves as of the beginning of the year in respect of which such payment is made.
For accounting purposes, although the interest charge must be reflected in the statement of operations to be tax-deductible, the charge is reversed before calculating net income in the statutory financial statements and deducted from shareholders equity in a manner similar to a dividend. Any payment of interest in respect of common shares (including the holders of the ADSs) is subject to Brazilian withholding tax at the rate of 15.0%, or 25.0% in the case of a shareholder domiciled in a tax haven. See TaxationBrazilian Tax Considerations. If such payments are accounted for, at their net value, as part of any mandatory dividend, the tax is paid by the company on behalf of its shareholders, upon distribution of the interest. If we distribute interest attributed to shareholders equity in any year, and that distribution is not accounted for as part of mandatory distribution, Brazilian income tax would be borne by the shareholders.
Under our bylaws, interest attributable to shareholders equity may be treated as a dividend for purposes of the mandatory dividend.
We distributed R$1,227 million to our shareholders from our 2009 net income. Of this amount, R$572 million, or R$1.191201324 per common share, was paid as an interim dividend on September 30, 2009 and R$655 million will be paid as supplemental dividend at a date to be determined by our management.
We intend to declare and pay dividends and/or interest attributed to shareholders equity in amounts of at least 50.0% of our adjusted net income, in semi-annual installments. The amount of any of our distributions of dividends and/or interest attributed to shareholders equity will depend on a series of factors, such as our financial conditions, prospects, macroeconomic conditions, tariff adjustments, regulatory changes, growth strategies and other matters our Board of Directors and our shareholders may consider relevant. In addition, covenants contained in our debt instruments may limit the amount of dividends and/or interest attributable to shareholders equity that we may make. Within the context of our tax planning, we may in the future determine that it is to our benefit to distribute interest attributable to shareholders equity in lieu of dividends.
Our Board of Directors may approve the distribution of dividends and/or interest attributed to shareholders equity, calculated based on our annual or semi-annual financial statements or on financial statements relating to shorter periods, or also based on accrued profits recorded or on profits allocated to non-profits reserve accounts in the annual or semi-annual financial statements. The declaration of annual dividends, including dividends in excess of the mandatory distribution, requires approval by the vote of the majority of the holders of our common shares.
Actions to be taken at our shareholders meetings
At our shareholder meetings, shareholders are generally empowered to take any action relating to our corporate purpose and to pass such resolutions as they deem necessary. The approval of our financial statements and the determination of the allocation of our net profits with respect to each fiscal year takes place at the annual shareholder meeting immediately following such fiscal year. The election of our directors and members of our fiscal council, if the requisite shareholders request its establishment, typically takes place at the annual shareholders meeting, although under Brazilian law it may also occur at a special shareholders meeting.
A special shareholders meeting may be held concurrently with the annual shareholders meeting. The following actions may only be taken at a special shareholders meeting:
amendment of our bylaws;
cancellation of registration with the CVM as a publicly-held company;
authorization of the issuance of debentures;
suspension of the rights of a shareholder who has violated Brazilian Corporate Law or our bylaws;
acceptance or rejection of the valuation of in-kind contributions offered by a shareholder in consideration for shares of our capital stock;
approval of our transformation into a limited liability company (sociedade limitada) or any other corporate form;
delisting of our common shares from the Novo Mercado;
appointment of a financial institution responsible for our valuation, in the event that a tender offer for our common shares is carried out in connection with a corporate transformation or delisting of our common shares from the Novo Mercado;
approval of any merger (fusão) or consolidation (incorporação) with another company or a spin-off (cisão);
approval of any dissolution or liquidation, the appointment and dismissal of the respective liquidator and the official review of the reports prepared by him or her;
authorization to petition for bankruptcy or judicial or extrajudicial restructuring (recuperação judicial or extrajudicial); and
approval of stock option plans to managers or employees of the Company and its subsidiaries.
According to Brazilian Corporate Law, neither a companys bylaws nor actions taken at a shareholders meeting may deprive a shareholder of some specific rights, such as:
the right to participate in the distribution of profits;
the right to participate equally and ratably in any remaining residual assets in the event of liquidation of the company;
the right to preemptive rights in the event of subscription of shares, convertible debentures or subscription warrants (bônus de subscrição), except in some specific circumstances under Brazilian law described in Preemptive Rights; and
the right to withdraw from the company in the cases specified in Brazilian Corporate Law, described in Withdrawal Rights.
As a general rule, Brazilian Corporate Law provides that a quorum at a shareholders meeting consists of shareholders representing at least 25.0% of a companys issued and outstanding voting capital on the first call and, if that quorum is not reached, any percentage on the second call. A quorum for the purposes of amending our bylaws consists of shareholders representing at least two-thirds of our issued and outstanding voting capital on the first call and any percentage on the second call.
As a general rule, the affirmative vote of shareholders representing at least the majority of our issued and outstanding common shares present in person or represented by proxy at a shareholders meeting is required to ratify any proposed action, with abstentions not taken into account. However, the affirmative vote of shareholders representing one-half of our issued and outstanding voting capital is required to:
reduce the percentage of mandatory dividends;
change our corporate purpose;
merge us with another company, if we are not the surviving company, or of our consolidation with another company;
spin off a portion of our assets or liabilities;
approve our participation in a group of companies (as defined in Brazilian Corporate Law);
apply for cancellation of any voluntary liquidation; and
approve our dissolution.
According to our bylaws and for so long as we are listed on the Novo Mercado, we may not issue common shares or founders shares and, to delist ourselves from the Novo Mercado, we will have to conduct a tender offer.
Notice of our Shareholders Meetings
Notice of our shareholders meetings must be published at least three times in the Diário Oficial do Estado de São Paulo, the official newspaper of the State of São Paulo, and in the newspaper Valor Econômico. The first notice must be published no later than 15 days before the date of the meeting on the first call, and no later than eight days before the date of the meeting on the second call. However, in certain circumstances, the CVM may require that the first notice be published 30 days in advance of the meeting.
Documents and Information
The specific documents and information requested for the exercise of the voting rights of our shareholders shall be made available by electronic means at the Brazilian Securities Exchange Commission and the U.S. Securities and
Exchange Commission websites, as well as at our investor relationship website. The following matters require specific documents and information:
matters with Interest of Related Parties;
ordinary Shareholders Meeting;
election of members of the Board of Directors;
compensation of the Management of the Company;
amendment to the Companys By-laws;
capital Increase or Capital Reduction;
issuance of Debentures or Subscription Bonuses;
change of the mandatory dividend distribution;
acquisition of the control of another company;
appointment of Evaluators; and/or
any matter which entitles the shareholders to exercise their withdrawal right.
Location of our Shareholders Meetings
Our shareholders meetings take place at our head offices in the city of São Paulo, State of São Paulo. Brazilian Corporate Law allows our shareholders to hold meetings outside our head offices in the event of force majeure, provided that the meetings are held in the City of São Paulo and the relevant notice contains a clear indication of the place where the meeting will occur.
Who May Call our Shareholders Meetings
In addition to our Board of Directors, shareholders meetings may also be called by:
any shareholder, if our directors fail to call a shareholders meeting within 60 days after the date they were required to do so under applicable laws and our bylaws;
shareholders holding at least five percent of our capital stock, if our directors fail to call a meeting within eight days after receipt of a request to call the meeting by those shareholders indicating the proposed agenda; and
our fiscal council, if one is in place, if the Board of Directors delays calling an annual shareholders meeting for more than one month. The fiscal council may also call a special shareholders meeting any time if it believes that there are important or urgent matters to be addressed.
Conditions of Admission
Shareholders attending our shareholders meeting must provide their identification cards and produce proof of ownership of the shares they intend to vote.
A shareholder may be represented at a shareholders meeting by a proxy, as long as the proxy is appointed less than a year before the shareholders meeting. The proxy must be a shareholder, an officer of the corporation, a lawyer or a financial institution. An investment fund must be represented by its investment fund officer. The Company and/or its shareholders may also carry out a public proxy request directed to all shareholders with voting rights.
The Company adopted in April 9, 2008, a Manual for Participation in General Shareholders Meetings to provide, in a clear and summarized form, information relating to the Companys Shareholders General Meeting and to encourage and facilitate the participation of all shareholders. This manual includes a standard power of attorney, which may be used by shareholders who are unable to be present at the meetings to appoint an attorney-in-fact to exercise their voting rights with regard to issues on the agenda.
Voting Rights of ADS Holders
ADS holders may instruct the depositary to vote the number of common shares that their ADSs represent. The depositary will notify those holders of shareholders meetings and arrange to deliver our voting materials to them upon our request. Those materials will describe the matters to be voted on and explain how the ADS holders may instruct the depositary how to vote. For instructions to be valid, they must reach the depositary by a date set by the depositary.
We cannot assure ADS holders that they will receive the voting materials or otherwise learn of an upcoming shareholders meeting in time to ensure that they can instruct the depositary to vote their common shares. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for the manner of carrying out voting instructions. This means that ADS holders may not be able to exercise their right to vote and there may be nothing that they can do if their shares are not voted as they requested.
Our shareholders have a general preemptive right to subscribe for shares in any capital increase according to the proportion of their shareholdings. Our shareholders also have a general preemptive right to subscribe for any convertible debentures, rights to acquire our shares and subscription warrants that we may issue. In accordance with our bylaws, a period of at least 30 days, in the case of a private placement, and 10 days, in the case of a public offering, following the publication of notice of the capital increase is allowed for the exercise of the preemptive right. Under Brazilian Corporate Law, holders are permitted to transfer or dispose of their preemptive right for consideration.
In addition, Brazilian Corporate Law allows for companies bylaws to give the board of directors the power to exclude preemptive rights or reduce the exercise period of such rights with respect to the issuance of new shares, debentures convertible into shares and subscription warrants up to the limit of the authorized share capital if the distribution of those shares is effected through a stock exchange, through a public offering or through an exchange of shares in a public offering the purpose of which is to acquire control of another company. Our bylaws currently have no such provision.
Brazilian Corporate Law grants our shareholders the right to withdraw from the company in case they disagree with decisions taken in shareholders meetings concerning the following matters: (i) the reduction of mandatory dividends; (ii) the merger of the company; (iii) the change of the corporate purpose of the company; or (iv) a spinoff of the company (if such spin-off changes the companys corporate purpose, reduces mandatory dividends or results in the company joining a group of entities). Even shareholders who did not vote or were not present at the relevant meeting may exercise this withdrawal right.
If our shareholders wish to withdraw from the company due to a merger, such right may only be exercised provided that the companys shares have no liquidity in the market.
The withdrawal right entitles the shareholder to the reimbursement of the value of its shares, upon request within 30 days of the publication of notice of the shareholders meeting. After such term, the companys management bodies may choose to call a general meeting to ratify or reconsider the decision which triggered the withdrawal rights, should the payment of such rights threaten the financial stability of the company.
For information concerning our material contracts, see Item 4. Information on the Company and Item 5. Operating and Financial Review and Prospects.
Exchange Controls and Other Limitations Affecting Security Holders
There are no restrictions on ownership of our capital stock by individuals or legal entities domiciled outside Brazil. However, the right to convert dividend payments and proceeds from the sale of common shares into foreign currency and to remit such amounts outside Brazil is subject to restrictions under foreign investment legislation which generally requires, among other things, that the relevant investment be registered with the Central Bank. These restrictions on the remittance of foreign capital abroad could hinder or prevent the custodian for the common shares represented by American Depositary Shares, or holders who have exchanged American Depositary Shares for common shares, from converting dividends, distributions or the proceeds from any sale of common shares into U.S. dollars and remitting such U.S. dollars abroad. Delays in, or refusal to grant any required government approval for conversions of Brazilian currency payments and remittances abroad of amounts owed to holders of American Depositary Shares could adversely affect holders of American depositary receipts ADRs.
Resolution No. 1,927/1992 of the National Monetary Council, which is the restated and amended Annex V to Resolution No. 1,289/1997, which we call the Annex V Regulations, provides for the issuance of depositary receipts in foreign markets in respect of shares of Brazilian issuers. It provides that the proceeds from the sale of American Depositary Shares by holders of American depositary receipts outside Brazil are free of Brazilian foreign investment controls and holders of American Depositary Shares who are not resident in a tax haven jurisdiction (i.e. a country or location that does not impose taxes on income or where the maximum income tax rate is lower than 20.0%, or where the legislation imposes restrictions on disclosure of the shareholding composition or the ownership of the investment) will be entitled to favorable tax treatment.
An electronic registration has been issued by the custodian in the name of Deutsche Bank, the depositary, with respect to the American Depositary Shares. Pursuant to this electronic registration, the custodian and the depositary are able to convert dividends and other distributions with respect to the common shares represented by American Depositary Shares into foreign currency and to remit the proceeds outside Brazil. If a holder exchanges American Depositary Shares for common shares, the holder may continue to rely on the custodians electronic registration for only five business days after the exchange. After that, the holder must seek to obtain its own electronic registration with the Central Bank under Law No. 4,131/1962 or Resolution No. 2,689/2000. Thereafter, unless the holder has registered its investment with the Central Bank, such holder may not convert into foreign currency and remit outside Brazil the proceeds from the disposition of, or distributions with respect to, such common shares. A holder that obtains an electronic registration generally will be subject to less favorable Brazilian tax treatment than a holder of American Depositary Shares. See TaxationBrazilian Tax Considerations.
Under Brazilian law, whenever there is a serious imbalance in Brazils balance of payments or reasons to foresee a serious imbalance, the Brazilian government may impose temporary restrictions on the remittance to foreign investors of the proceeds of their investments in Brazil, and on the conversion of Brazilian currency into foreign currencies. Such restrictions may hinder or prevent the custodian or holders who have exchanged American Depositary Shares for underlying common shares from converting distributions or the proceeds from any sale of such shares, as the case may be, into U.S. dollars and remitting such U.S. dollars abroad.
The following summary contains a description of the material Brazilian and U.S. federal income tax consequences of the acquisition, ownership and disposition of common shares or ADSs, but it does not purport to be a comprehensive description of all the tax considerations that may be relevant to a decision to purchase common shares or ADSs. The summary is based upon the tax laws of Brazil and regulations thereunder and on the tax laws of the United States and regulations thereunder as in effect on the date hereof, which are subject to change. Holders of common shares or ADSs should consult their own tax advisors as to the tax consequences of the acquisition, ownership and disposition of common shares or ADSs.
Although there is at present no income tax treaty between Brazil and the United States, the tax authorities of the two countries have had discussions that may culminate in such a treaty. No assurance can be given, however, as to whether or when a treaty will enter into force or how it will affect the U.S. holders of common shares or ADSs. Prospective holders of common shares or ADSs should consult their own tax advisors as to the tax consequences of the acquisition, ownership and disposition of common shares or ADSs in their particular circumstances.
Brazilian Tax Considerations
The following discussion summarizes the material Brazilian tax consequences of the acquisition, ownership and disposition of our common shares or ADSs by a holder that is not domiciled in Brazil for purposes of Brazilian taxation, or a Non-Brazilian Holder.
Pursuant to Brazilian law, foreign investors may invest in the common shares under Resolution No. 2,689 of the National Monetary Council, or Resolution No. 2,689.
Resolution No. 2,689 allows foreign investors to invest in almost all financial assets and to engage in almost all transactions available in the Brazilian financial and capital markets, provided that some requirements are fulfilled. In accordance with Resolution No. 2,689, the definition of foreign investor includes individuals, legal entities, mutual funds and other collective investment entities, domiciled or headquartered abroad.
Pursuant to Resolution No. 2,689, foreign investors must: (i) appoint at least one representative in Brazil with powers to perform actions relating to the foreign investment; (ii) complete the appropriate foreign investor registration form; (iii) register as a foreign investor with the CVM; and (iv) register the foreign investment with the Central Bank.
Securities and other financial assets held by foreign investors pursuant to Resolution No. 2,689 must be registered or maintained in deposit accounts or under the custody of an entity duly licensed by the Central Bank or the CVM. In addition, securities trading is restricted to transactions carried out in the stock exchanges or organized over-the-counter markets licensed by the CVM, except for transfers resulting from a corporate reorganization, occurring upon the death of an investor by operation of law or will or as a consequence of the delisting of the relevant shares from a stock exchange and the cancellation of the registration with the CVM.
Taxation of Dividends
Dividends, including dividends in kind, paid by us to the depositary in respect of the common shares underlying the ADSs or to a Non-Brazilian Holder in respect of common shares generally will not be subject to Brazilian withholding income tax provided that they are paid out of profits generated as of or after January 1, 1996. Dividends relating to profits generated prior to December 31, 1995 are subject to Brazilian withholding tax from 15.0% to 25.0% according to the tax legislation applicable to each corresponding year in which the profits have been earned.
Taxation of Gains
ADSs. According to applicable Brazilian law (Law No. 10,833/2003), capital gains arising from transactions between two non-resident parties, involving assets situated in Brazil, are subject to Brazilian withholding income tax, at a rate of 15.0% (25.0% in case the seller is situated in a tax haven jurisdiction). Arguably, the gains realized by a Non-Brazilian Holder on the disposition of ADSs to another non-Brazilian resident should not be taxed in Brazil, based on the idea that ADSs would not constitute assets located in Brazil for purposes of Law No. 10,833/2003. However, we cannot assure you of how Brazilian courts would interpret the definition of assets located in Brazil in connection with the taxation of gains realized by a Non-Brazilian Holder on the disposition of ADSs to another non-Brazilian resident. Thus, the gain on a disposition of ADSs by a Non-Brazilian Holder to a resident in Brazil (or possibly to a Non-Brazilian Holder), in the event that courts determine that ADSs constitute assets located in Brazil, may be subject to income tax in Brazil according to the rules described below for the common shares. Non-Brazilian Holders should consult their own tax advisor concerning the tax consequences of a sale of ADSs in Brazil.
Although there are grounds to sustain otherwise, the deposit of common shares in exchange for ADSs may be subject to Brazilian withholding tax, if the acquisition cost of the common shares is lower than (i) the average price per common share on a Brazilian stock exchange on which the greatest number of such shares were sold on the day of deposit; or (ii) if no common shares were sold on that day, the average price on the Brazilian stock exchange on which the greatest number of common shares were sold in the 15 trading sessions immediately preceding such deposit. In such case, the difference between the acquisition cost and the average price of the common shares calculated as above will be considered to be a capital gain subject to income tax at a rate of 15.0% or 25.0% in the case of investors located in a tax haven jurisdiction (if the common shares are held by an investor registered under Resolution No.2,689 that is not resident in a tax haven jurisdiction, and the sale is performed on the stock exchange, however, any gain will be tax exempt from income tax in such transaction).
The withdrawal of common shares upon cancellation of ADSs is not subject to Brazilian income tax, as long as the regulatory rules are appropriately observed with respect to the registration of the investment before the Central Bank.
Common Shares. As a general rule, gains realized by Non-Brazilian Holders on any disposition of common shares are subject to income tax at a rate of 15.0%, regardless of whether the sale or the disposition is made by the Non-Brazilian Holder to a resident or non-resident in Brazil, or if the transaction is conducted in Brazil or abroad, except for the specific cases described below.
Gains realized on any disposition of common shares by Non-Brazilian Holders who are resident in a jurisdiction that is deemed to be a tax haven jurisdiction under Brazilian law (i.e., a country that does not impose any income tax or that imposes tax at a maximum rate of less than 20.0%, or which laws impose restrictions on disclosure of ownership composition or securities ownership such that the identification of the beneficial owner of income is not permitted) are subject to income tax at a rate of 25.0%.
Gains realized on sales or disposition of common shares carried out on the Brazilian stock exchange by Non-Brazilian Holders who are not resident in a tax haven jurisdiction are exempt from income tax, if such Non-Brazilian Holder is registered under Resolution No.2,689. If the Non-Brazilian Holder is a resident of a tax haven or is not registered under Resolution No.2,689, the gain realized on such sale or disposition of common shares is subject to income tax at a rate of 15.0%. In these cases, a withholding income tax of 0.005% on the sale value shall be applicable and can be offset with the eventual income tax due on the capital gain.
Gains on the disposition of common shares are measured by the difference between the amount in Brazilian currency obtained from the sale or exchange of the shares and their acquisition cost in Brazilian currency, without any monetary adjustment. However, for Non-Brazilian Holders with a direct investment in common shares registered as foreign capital with the Central Bank of Brazil, the acquisition cost should be measured in foreign currency, converted into reais at the date of the sale.
Exercise of Preemptive Rights. Any exercise of preemptive rights relating to the common shares or ADSs will not be subject to Brazilian taxation. Any gain on the sale or assignment of preemptive rights relating to common shares by the depositary on behalf of holders of ADSs will be subject to Brazilian income taxation according to the same rules applicable to the sale or disposition of common shares.
Interest Attributable to Shareholders Equity. Payments of interest on shareholders equity to shareholders who are either Brazilian residents or non-Brazilian residents, including holders of ADSs, are subject to Brazilian income withholding tax at the rate of 15.0%, or 25.0% for shareholders domiciled in a tax haven jurisdiction. If such payments are accounted for, at their net value, as part of any mandatory dividend, the tax is paid by the company on behalf of its shareholders, upon payment of the interest. If we pay interest on shareholders equity in any year, and that payment is not accounted for as part of a mandatory dividend distribution, Brazilian income tax would be borne by the shareholders.
The payment of interest on shareholders equity may be recommended by our Board of Directors and needs to be approved by our general shareholders meeting. We cannot assure you that our Board of Directors will not recommend that future distributions of profits may be made by means of interest on shareholders equity instead of by means of dividends.
Tax on foreign exchange transactions
The conversion of foreign currency into Brazilian reais as well as the conversion of Brazilian reais into foreign currency are subject to a tax on foreign exchange transactions (IOF/Exchange). The rate of such tax varies according to the nature of the transaction, such as:
Inflow of funds from foreign investors for investment in the Brazilian financial and capital markets: 2%;
Outflow of funds to foreign investors of the funds invested in the Brazilian financial and capital markets regarding the above-mentioned transaction: 0%;
Remittances of dividends and interest on equity to foreign investors related to the above-mentioned transactions: 0%;
Inflow of funds regarding loans with an average maturity term equal or lower than 90 days: 5,38%; and
Other foreign exchange transactions (subject to exceptions provided in the applicable legislation): 0.38%.
The IOF/Exchange may be changed at any time, up to 25.0%, upon the discretion of the President. Any such increase, although immediately applicable, would only apply to future exchange transactions.
Tax on transactions involving bonds and securities
Brazilian law imposes a tax on transactions involving bonds and securities (the IOF/Bonds Tax), including those carried out on Brazilian stock, futures or commodities exchanges. The IOF/Bonds Tax is currently reduced to zero in all transactions, except redemption of fixed yield investments lasting less than 30 days. However, this rate may be increased at any time to up to 1.5% per day by the President, but only with respect to future transactions. Currently, this tax is reduced to zero on all transactions involving stocks.
Other Relevant Brazilian Taxes
There are no Brazilian inheritance, gift or succession taxes applicable to the ownership, transfer or disposition of common shares or ADSs by a Non-Brazilian Holder except for gift and inheritance taxes levied by certain Brazilian states on gifts or inheritance bestowed by individuals or entities not resident or domiciled in Brazil or not domiciled within that state, to individuals or entities resident or domiciled within in that Brazilian state. There are no Brazilian stamp, issue, registration or similar taxes or duties payable by holders of common shares or ADSs.
U.S. Federal Income Tax Consequences
This discussion is a summary of the material U.S. federal income tax consequences of the ownership and disposition of common shares or ADSs. Except as provided below, this discussion applies only to beneficial owners of common shares or ADSs that are U.S. holders, as defined below. This discussion is based on the U.S. Internal Revenue Code of 1986, as amended (the Code), its legislative history, existing final, temporary and proposed Treasury regulations, administrative pronouncements by the U.S. Internal Revenue Service (the IRS) and judicial decisions, in each case as of the date hereof, all of which are subject to change (possibly on a retroactive basis) and to different interpretations.
This discussion does not purport to be a comprehensive description of all of the U.S. federal income tax consequences that may be relevant to a particular U.S. holder (including tax considerations that arise from rules of general application to all taxpayers or to certain classes of investors or that are generally assumed to be known by investors) and holders are urged to consult their own tax advisor regarding their specific tax situations. This discussion applies only to holders of common shares or ADSs who hold the common shares or ADSs as capital assets (generally, property held for investment) under the Code and does not address the tax consequences that may be relevant to U.S. holders in special tax situations including, for example:
brokers or dealers in securities or currencies;
U.S. holders whose functional currency is not the U.S. dollar;
holders that own or have owned stock constituting 10.0% or more of the Companys total combined voting power (whether such stock is directly, indirectly or constructively owned);
regulated investment companies;
real estate investment trusts;
common trust funds;
banks or other financial institutions;
persons liable for the alternative minimum tax;
securities traders who elect to use the mark-to-market method of accounting for their securities holdings;
persons that acquired common shares or ADSs as compensation for the performance of services;
U.S. expatriates; and
persons holding common shares or ADSs as part of a straddle, hedge or conversion transaction or as part of a synthetic security, constructive sale or other integrated transaction.
Except where specifically described below, this discussion assumes that the Company is not a passive foreign investment company (a PFIC) for U.S. federal income tax purposes. In addition, this discussion does not address tax considerations applicable to persons that hold an interest in a partnership or other pass-through entity that holds common shares or ADSs, or any U.S. federal estate and gift, state, local or non-U.S. tax consequences of the ownership and disposition of common shares or ADSs. Each holder should consult such holders own tax advisor concerning the overall tax consequences to it, including the consequences under laws other than U.S. federal income tax laws, of an investment in common shares or ADSs.
As used herein, the term U.S. holder means a beneficial owner of common shares or ADSs that is, for U.S. federal income tax purposes, (i) an individual who is a citizen or resident of the United States; (ii) a corporation (or other entity treated as a corporation for U.S. federal income tax purposes) created or organized in or under the laws of the United States, any state thereof or the District of Columbia; (iii) an estate, the income of which is subject to U.S. federal income taxation regardless of its source; or (iv) a trust if (A) it is subject to the primary supervision of a court within the United States and one or more U.S. persons have the authority to control all of the substantial decisions of the trust or (B) it has a valid election in effect under applicable Treasury regulations to be treated as a U.S. person. As used herein, a non-U.S. holder is a beneficial owner of common shares or ADSs that is neither a U.S. holder nor a partnership (or an entity treated as a partnership for U.S. federal income tax purposes).
If a partnership (or other entity classified as a partnership for U.S. federal income tax purposes) owns common shares or ADSs, the tax treatment of a partner in such partnership will generally depend on the status of the partner and the activities of the partnership holding common shares or ADSs. Partnerships that are beneficial owners of common shares or ADSs, and partners in such partnerships, should consult their own tax advisors regarding the U.S. federal, state, local and non-U.S. tax considerations applicable to them with respect to the ownership and disposition of common shares or ADSs.
For U.S. federal income tax purposes, a U.S. holder of an ADS will generally be treated as the beneficial owner of the common shares represented by the ADS. However, see the discussion below under Taxation of Distributions regarding certain statements made by the U.S. Treasury Department concerning depositary arrangements.
Taxation of Distributions
Subject to the discussion below under Passive Foreign Investment Company Rules, the gross amount of any distributions of cash or property made with respect to common shares or ADSs (including distributions characterized as interest on shareholders equity for Brazilian law purposes and any amounts withheld to reflect Brazilian withholding taxes) generally will be taxable as dividends for U.S. federal income tax purposes to the extent of the Companys current or accumulated earnings and profits, as determined under U.S. federal income tax principles.
A U.S. holder will generally include such dividends in gross income as ordinary income on the day such dividends are actually or constructively received. Distributions in excess of the Companys current and accumulated earnings and profits will be treated first as a non-taxable return of capital, thereby reducing the U.S. holders adjusted tax basis (but not below zero) in common shares or ADSs, as applicable, and thereafter as either long-term or short-term capital gain (depending on whether the U.S. holder has held common shares or ADSs, as applicable, for more than one year as of the time such distribution is actually or constructively received).
If any cash dividends are paid in reais, the amount of a distribution paid in reais will be the U.S. dollar value of the reais received, calculated by reference to the exchange rate in effect on the date the distribution of actual or constructive receipt. If the reais received as a dividend are not converted into U.S. dollars on the date of receipt, a U.S. holder will have a tax basis in the reais equal to their U.S. dollar value on the date of receipt. If any reais actually or constructively received by a U.S. holder are later converted into U.S. dollars, such U.S. holder may recognize foreign currency gain or loss, which would be treated as ordinary gain or loss. Such gain or loss generally will be treated as gain or loss from sources within the United States for U.S. foreign tax credit purposes. U.S. holders should consult their own tax advisors concerning the possibility of foreign currency gain or loss if any such currency is not converted into U.S. dollars on the date of actual or constructive receipt.
Dividends paid by the Company will not be eligible for the dividends received deduction allowed to corporations under the Code. Subject to the below-mentioned concerns by the U.S. Treasury Department regarding certain inconsistent actions taken by intermediaries and certain exceptions for short-term and hedged positions, the U.S. dollar amount of dividends received by certain U.S. holders (including individuals) in a taxable year beginning on or before December 31, 2010 with respect to the ADSs will be subject to taxation at a maximum rate of 15.0% if the dividends represent qualified dividend income. Dividends paid on the ADSs will be treated as qualified dividend income if (i) the ADSs are readily tradable on an established securities market in the United States and (ii) the Company was not, in the year prior to the year in which the dividend was paid, and is not, in the year in which the dividend is paid, a PFIC. The ADSs are listed on the New York Stock Exchange, and will qualify as readily tradable on an established securities market in the United States so long as they are so listed. However, no assurances can be given that the ADSs will be or will remain readily tradable. See below for a discussion regarding the Companys PFIC determination.
Based on existing guidance, it is not entirely clear whether dividends received with respect to the common shares will be treated as qualified dividend income, because the common shares are not themselves listed on a U.S. exchange. In addition, the U.S. Treasury Department has announced its intention to promulgate rules pursuant to which holders of common shares or ADSs and intermediaries through whom such securities are held will be permitted to rely on certifications from issuers to establish that dividends are treated as qualified dividends. Because such procedures have not yet been issued, it is not clear whether the Company will be able to comply with them. U.S. holders of common shares or ADSs should consult their own tax advisors regarding the availability of the reduced dividend tax rate in the light of their own particular circumstances.
Subject to certain limitations (including a minimum holding period requirement), a U.S. holder may be entitled to claim a U.S. foreign tax credit in respect of any Brazilian income taxes withheld on dividends received with respect to the common shares or ADSs. U.S. holders that do not elect to claim a credit for any foreign income taxes paid or accrued during a taxable year may instead claim a deduction in respect of such Brazilian income taxes, provided that the U.S. holder elects to deduct (rather than credit) all foreign income taxes paid or accrued for the taxable year. Dividends received with respect to the ADSs generally will be treated as dividend income from sources outside of the United States and generally will constitute passive category income for U.S. foreign tax credit limitation purposes for most U.S. holders. The rules governing foreign tax credits are complex and U.S. holders should consult their own tax advisors regarding the availability of foreign tax credits in their particular circumstances. The U.S. Treasury Department has expressed concern that intermediaries in connection with depositary arrangements may be taking actions that are inconsistent with the claiming of foreign tax credits by U.S. persons who are holding depositary shares. Accordingly, U.S. holders should be aware that the discussion above regarding the ability to credit Brazilian withholding tax on dividends and the availability of the reduced tax rate for dividends received by certain non-corporate holders above could be affected by actions taken by parties to whom the ADSs are released and the IRS.
Distributions of additional shares to holders with respect to their common shares or ADSs that are made as part of a pro rata distribution to all the Companys shareholders generally will not be subject to U.S. federal income tax.
Non-U.S. holders generally will not be subject to U.S. federal income tax or withholding tax on distributions with respect to common shares or ADSs that are treated as dividend income for U.S. federal income tax purposes unless such dividends are effectively connected with the conduct by such holders of a trade or business in the United States (and, if required by an applicable income tax treaty, are attributable to a U.S. permanent establishment or fixed base).
Taxation of Sales, Exchanges or Other Taxable Dispositions
Deposits and withdrawals of common shares by U.S. holders in exchange for ADSs will not result in the realization of gain or loss for U.S. federal income tax purposes.
Upon the sale, exchange or other taxable disposition of common shares or ADSs, a U.S. holder will generally recognize gain or loss for U.S. federal income tax purposes in an amount equal to the difference between the amount realized in consideration for the disposition of the common shares or ADSs (including the gross amount of the proceeds before the deduction of any Brazilian tax) and the U.S. holders adjusted tax basis in the common shares or ADSs. The initial tax basis of common shares or ADSs held by a U.S. holder will be the U.S. dollar value of the reais-denominated purchase price determined on the date of purchase. Such gain or loss generally will be treated as capital gain or loss and will be long-term capital gain or loss if the common shares or ADSs have been held for more than one year at the time of the sale, exchange or other taxable disposition. Although the Company does not believe that U.S. holders will be entitled to a credit or deduction with respect to any IOF/Exchange paid on common shares or ADSs (as discussed in TaxationBrazilian Tax ConsiderationsTaxation of GainsTax on foreign exchange transactions), U.S. holders should be entitled to include the amount of the IOF/Exchange paid as part of their initial basis in such common shares or ADSs. Under current law, certain non-corporate U.S. holders (including individuals) may be eligible for preferential rates of U.S. federal income tax in respect of long-term capital gains. The deductibility of capital losses is subject to limitations under the Code.
If Brazilian income tax is withheld on the sale, exchange or other taxable disposition of common shares or ADSs, the amount realized by a U.S. holder will include the gross amount of the proceeds of that sale, exchange or other taxable disposition before deduction of the Brazilian income tax withheld. Capital gain or loss, if any, realized by a U.S. holder on the sale, exchange or other taxable disposition of common shares or ADSs generally will be treated as U.S. source gain or loss for U.S. foreign tax credit purposes. Consequently, in the case of a gain from the disposition of common shares or ADSs that is subject to Brazilian income tax (see Brazilian Tax ConsiderationsTaxation of Gains), the U.S. holder may not be able to benefit from the foreign tax credit for that Brazilian income tax (i.e., because the gain from the disposition would be U.S. source), unless the U.S. holder can apply the credit against U.S. federal income tax payable on other income from foreign sources. Alternatively, the U.S. holder may take a deduction for the Brazilian income tax, provided that the U.S. holder elects to deduct all foreign income taxes paid or accrued for the taxable year.
A non-U.S. holder will not be subject to U.S. federal income tax or withholding tax on gain realized on the sale or other disposition of common shares or ADSs unless (i) such holder is an individual who is present in the United States of America for 183 days or more in the taxable year of the sale and certain other conditions are met, or (ii) such gain is effectively connected with the conduct by the holder of a trade or business in the United States (and, if required by an applicable income tax treaty, are attributable to a U.S. permanent establishment or fixed base). If the first exception (i) applies, the non-U.S. holder generally will be subject to tax at a rate of 30% on the amount by which the gains derived from the sales that are from U.S. sources exceed capital losses allocable to U.S. sources. If the second exception (ii) applies, the non-U.S. holder generally will be subject to U.S. federal income tax with respect to the gain in the same manner as U.S. holders, as described above. In addition, in the case of (ii), if such non-U.S. holder is a foreign corporation, it may be subject to a branch profits tax equal to 30% (or such lower rate provided by an applicable treaty) of its effectively connected earnings and profits for the taxable year, subject to certain adjustments.
Passive Foreign Investment Company Rules
Special U.S. federal income tax rules apply to U.S. persons owning shares of a PFIC. In general, a non-U.S. corporation will be classified as a PFIC for any taxable year during which, after applying relevant look through rules with respect to the income and assets of subsidiaries, either (i) 75.0% or more of the non-U.S. corporations gross income is passive income or (ii) on average 50.0% or more of the gross value of the non-U.S. corporations assets produce passive income or are held for the production of passive income. For these purposes, passive income generally includes, among other things, dividends, interest, rents, royalties, gains from the disposition of passive assets and gains from commodities and securities transactions, other than certain active business gains from the sale of commodities (the Active Commodities Business exception). In determining whether a non-U.S. corporation is a PFIC, a pro rata portion of the income and assets of each corporation in which it owns, directly or indirectly, at least 25.0% interest (by value) is taken into account.
The determination as to whether a non-U.S. corporation is a PFIC is based on the composition of the income, expenses and assets of the non-U.S. corporation from time to time and the application of complex U.S. federal income tax rules, which are subject to different interpretations. In particular, the Companys PFIC status for any taxable year will likely depend upon the extent to which the Companys revenue from the sale of electricity qualifies under the Active Commodities Business exception, an analysis that raises uncertainties in application and interpretation. Further, the relevant Treasury regulations addressing the Active Commodities Business exception have yet to be revised to reflect statutory changes with regard to this exception. There can be no assurances that the Company would qualify under the Active Commodities Business exception if and when the relevant Treasury regulations were revised. Based on the Companys audited financial statements, the nature of the Companys business, and relevant market and shareholder data, the Company believes that it would not be classified as a PFIC for its last taxable year or its current taxable year (although the determination cannot be made until the end of such taxable year), and the Company does not expect to be classified as a PFIC in the foreseeable future, based on its current business plans and its current interpretation of the Code and Treasury regulations that are currently in effect.
If, contrary to the discussion above, the Company is treated as a PFIC, a U.S. holder would be subject to special rules (and may be subject to increased U.S. federal income tax liability and filing requirements) with respect to (a) any gain realized on the sale, exchange or other taxable disposition of common shares or ADSs and (b) any excess distribution made by the Company to the U.S. holder (generally, any distribution during a taxable year in which distributions to the U.S. holder on the common shares or ADSs exceed 125% of the average annual distributions the U.S. holder received on the common shares or ADSs during the preceding three taxable years or, if shorter, the U.S. holders holding period for the common shares or ADSs). Under those rules, (a) the gain or excess distribution would be allocated ratably over the U.S. holders holding period for the common shares or ADSs, (b) the amount allocated to the taxable year in which the gain or excess distribution is realized and to taxable years before the first day on which the Company became a PFIC would be taxable as ordinary income, (c) the amount allocated to each prior year in which the Company was a PFIC would be subject to U.S. federal income tax at the highest tax rate in effect for that year and (d) the interest charge generally applicable to underpayments of U.S. federal income tax would be imposed in respect of the tax attributable to each prior year in which the Company was a PFIC.
In general, if the Company is treated as a PFIC, the rules described above can be avoided by a U.S. holder that elects to be subject to a mark-to-market regime for stock in a PFIC. A U.S. holder may elect mark-to-market treatment for its common shares or ADSs, provided the common shares or ADSs, for purposes of the rules, constitute marketable stock as defined in Treasury regulations. The ADSs will be marketable stock for this purpose if they are regularly traded on the New York Stock Exchange, other than in de minimis quantities on at least 15 days during each calendar quarter. A U.S. holder electing the mark-to-market regime generally would compute gain or loss at the end of each taxable year as if the common shares or ADSs had been sold at fair market value. Any gain recognized by the U.S. holder under mark-to-market treatment, or on an actual sale, would be treated as ordinary income, and the U.S. holder would be allowed an ordinary deduction for any decrease in the value of common shares or ADSs as of the end of any taxable year, and for any loss recognized on an actual sale, but only to the extent, in each case, of previously included mark-to-market income not offset by previously deducted decreases in value. Any loss on an actual sale of common shares or ADSs would be a capital loss to the extent in excess of previously included mark-to-market income not offset by previously deducted decreases in value. A U.S. holders adjusted tax basis in common shares or ADSs would increase or decrease by gain or loss taken into account under the mark-to-market regime. A mark-to-market election is generally irrevocable. In addition, a mark-to-market election with respect to common shares or ADSs would not apply to any subsidiary of the Company that is itself a PFIC (a lower-tier PFIC), and a U.S. holder would not be able to make such a mark-to-market election in respect of its indirect ownership interest in that lower-tier PFIC. Consequently, the PFIC rules could apply with respect to income of a lower-tier PFIC, the value of which would already have been taken into account indirectly via mark-to-market adjustments in respect of common shares or ADSs.
A U.S. holder that owns common shares or ADSs during any taxable year that the Company is treated as a PFIC generally would be required to file IRS Form 8621. U.S. holders should also be aware that recently enacted legislation would impose an additional annual filing requirement for U.S. persons owning shares of a PFIC. The legislation does not describe what information would be required to be included in the additional annual filing, but grants the Secretary of the U.S. Treasury Department power to make this determination. U.S. holders should consult their independent tax advisors regarding the application of the PFIC rules to common shares or ADSs, the availability and advisability of making an election to avoid the adverse tax consequences of the PFIC rules should the Company be considered a PFIC for any taxable year and the application of the recently-enacted legislation to their particular situation.
Backup Withholding and Information Reporting
Dividends paid on, and proceeds from the sale, exchange or other taxable disposition of, common shares or ADSs to a U.S. holder generally may be subject to the information reporting requirements of the Code and may be subject to backup withholding of U.S. federal income tax (currently at a rate of 28.0%) unless the U.S. holder (i) provides an accurate taxpayer identification number and certifies that it is a U.S. person and that no loss of exemption from backup withholding has occurred or (ii) is a corporation or other exempt recipient. The amount of any backup withholding collected from a payment to a U.S. holder will be allowed as a credit against the U.S. holders U.S. federal income tax liability and may entitle the U.S. holder to a refund, provided that certain required information is timely furnished to the IRS.
Non-U.S. holders generally will not be subject to information reporting and backup withholding tax, but may be required to comply with certain certification and identification procedures in order to establish their eligibility for such exemption.
Documents on Display
Statements contained in this annual report regarding the contents of any contract or other document are not necessarily complete, and, where the contract or other document is an exhibit to the annual report, each of these statements is qualified in all respects by the provisions of the actual contract or other documents.
We are subject to the information requirements of the Securities Exchange Act of 1934, as amended, applicable to a foreign private issuer, and accordingly, we file or furnish reports, information statements and other information with the SEC. Reports and other information filed by us with the SEC can be inspected at, and subject to the payment of any required fees, copies may be obtained from, the public reference facilities of the SEC, 100 F Street, N.E., Washington, D.C. 20549. Our filings will also be available at the SECs website at http://www.sec.gov.
Reports and other information may also be inspected and copied at the offices of the New York Stock Exchange, 20 Broad Street, New York, New York 10005. As a foreign private issuer, however, we are exempt from the proxy requirements of Section 14 of the Exchange Act and from the short-swing profit recovery rules of Section 16 of the Exchange Act.
Our website is located at http://www.cpfl.com.br and our investor relations website is located at http://www.cpfl.com.br/ir. (These URLs are intended to be an inactive textual reference only. They are not intended to be an active hyperlink to our website. The information on our website, which might be accessible through a hyperlink resulting from this URL is not, and shall not be deemed to be, incorporated into this annual report.)
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk from changes in both foreign currency exchange rates and rates of interest and indexation. We have foreign exchange rate risk with respect to our debt denominated in U.S. dollars and Japanese yens. We are subject to market risk deriving from changes in rates which affect the cost of our financing.
Exchange Rate Risk
At December 31, 2009, we had outstanding approximately R$1,202 million of indebtedness denominated in foreign currencies, including U.S. dollars and Japanese yen, and R$86 million of indebtedness denominated in Brazilian reais, but partially indexed to the U.S. dollar. Also at December 31, 2009, we had swap agreements that offset the exchange rate risk with respect to R$1,225 million of those amounts. The potential loss to us that would result from a hypothetical unfavorable 10.0% change in foreign currency exchange rates, after giving effect to the swaps, would be approximately R$6 million, primarily due to the increase in real terms in the principal amount of our foreign currency indebtedness. The total increase in our foreign currency indebtedness would be reflected as an expense in our income statement.
Risk of Index Variation
We have indebtedness and financial assets that are denominated in reais and that bear interest at variable rates or, in some cases, are fixed. We also have swaps that convert some U.S.dollar-denominated indebtedness to reais at variable interest rates. The interest or indexation rates include several different Brazilian money-market rates and inflation rates. At December 31, 2009, the amount of such liabilities, net of such assets and after giving effect to swaps, was R$5,832 million.
A hypothetical, instantaneous and unfavorable change of 100 basis points in rates applicable to floating rate financial assets and liabilities held at December 31, 2009, would result in a net additional cash outflow of approximately R$58 million. This sensitivity analysis is based on the assumption of an unfavorable 100 basis point movement of the interest rates applicable to each homogeneous category of financial assets and liabilities. A homogeneous category is defined according to the currency in which financial assets and liabilities are denominated and assumes the same interest rate movement within each homogeneous category (e.g., U.S. dollars). As a result, our interest rate risk sensitivity model may overstate the impact of interest rate fluctuations for such financial instruments as consistently unfavorable movements of all interest rates are unlikely.
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES
American Depositary Shares
Fees and Expenses
The following table summarizes the fees and expenses payable by holders of ADSs:
|Persons depositing common shares or ADS holders must pay:||For:|
US$5.00 (or less) per 100 ADSs (or portion of 100 ADSs)
Issuance of ADSs, including issuances resulting from a distribution of common shares or rights or other property
Cancellation of ADSs for the purpose of withdrawal, including if the deposit agreement terminates
US$2.00 (or less) per 100 ADS (to the extent not prohibited by the rules of any stock exchange on which the ADSs are listed for trading)
Any cash distribution to you
US$2.00 (or less) per 100 ADS (to the extent the depositary has not collected a cash distribution fee of US$2.00 per 100 ADS during the year)
Registration or transfer fees
Transfer and registration of common shares on our common share register to or from the name of the depositary or its agent when you deposit or withdraw common shares.
|Expenses of the depositary|| |
Cable, telex and facsimile transmissions (when expressly provided in the deposit agreement)
Converting foreign currency to U.S. dollars
|Taxes and other governmental charges the depositary or the custodian have to pay on any ADS or common share underlying an ADS, for example, stock transfer taxes, stamp duty or withholding taxes||As necessary|
|Any charges incurred by the depositary or its agents for servicing the deposited securities||No charges of this type are currently made in the Brazilian market|
Reimbursement of Fees
The depositary collects its fees for delivery and surrender of ADSs directly from investors depositing shares or surrendering ADSs for the purpose of withdrawal or from intermediaries acting for them. The depositary collects fees for making distributions to investors by deducting those fees from the amounts distributed or by selling a portion of distributable property to pay the fees. The depositary may collect its annual fee for depositary services by deduction from cash distributions or by directly billing investors or by charging the book-entry system accounts of participants acting for them. The depositary may generally refuse to provide fee-attracting services until its fees for those services are paid.
ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS
ITEM 15. CONTROLS AND PROCEDURES
We have evaluated, with the participation of our chief executive officer and chief financial officer, the effectiveness of our disclosure controls and procedures as of December 31, 2009. There are inherent limitations to the effectiveness of any system of disclosure controls and procedures, including the possibility of human error and the circumvention or overriding of the controls and procedures. Accordingly, even effective disclosure controls and procedures can only provide reasonable assurance of achieving their control objectives. Based upon our evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the applicable rules and forms, and that it is accumulated and communicated to our management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.
Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Our internal control over financial reporting includes those policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect our transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of the effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, and that the degree of compliance with the policies or procedures may deteriorate.
Our management has assessed the effectiveness of our internal control over financial reporting as of December 31, 2009 based on the criteria established in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on such assessment and criteria, our management has concluded that our internal control over financial reporting was effective as of December 31, 2009.
The effectiveness of our internal control over financial reporting as of December 31, 2009 has been audited by KPMG Auditores Independentes, an independent registered public accounting firm, as stated in their report that appears herein.
There has been no change in our internal control over financial reporting during 2009 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Report of Independent Registered Public Accounting Firm of Internal Control over Financial Reporting
The Board of Directors and Shareholders of CPFL Energia S.A.
We have auditied CPFL Energia S.A.s internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). CPFL Energia S.A.s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Form 20-F. Our responsibility is to express an opinion on the Companys internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control baseed on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A companys internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A companys internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expendituers of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention of timely detection of unauthorized acquisition, use, or disposition of the companys assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in aconditions, or that the degree of compliance with the policies or procedures may deteriorate.
In our opinion, CPFL Energia S.A. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of CPFL Energia S.A. and subsidiaries as of December 31, 2009 and 2008, and the related consolidated statements of income, changes in shareholders equity, cash flows and added value for the years then ended, and our report dated on March 26, 2010, expressed an unqualified opinion on those consolidated financial statements.
/s/ KPMG Auditores Independentes
KPMG Auditores Independentes
March 26, 2010
ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT
As described in Item 16D below, we have given our fiscal council the necessary powers to qualify for the exemption from the audit committee requirements set forth in Exchange Act Rule 10A-3(c)(3). Our Board of Directors recognizes that one member of our fiscal council, Daniela Corci Cardoso, qualifies as an audit committee financial expert and meets the applicable independence requirements for fiscal council membership under Brazilian law. She also meets the New York Stock Exchange independence requirements that would apply to audit committee members in the absence of our reliance on the exemption set forth in Exchange Act Rule 10A-3(c)(3). Some of the members of our fiscal council are currently employed by some of our principal shareholders or their affiliates.
ITEM 16B. CODE OF ETHICS
We have adopted a Code of Ethics applicable to our employees and our directors and executive officers, which addresses such matters as conflicts of interest, corporate opportunities, confidentiality, fair dealing, protection and proper use of company assets, compliance with laws, rules and regulations (including insider trading laws) and encouraging the reporting of any illegal or unethical behavior. Our Code of Ethics is available on our website at: http://www.b2i.cc/Document/986/CPFL_CodEtica_20061227_eng.pdf. (This URL is intended to be an inactive textual reference only. It is not intended to be an active hyperlink to our website. The information on our website, which might be accessible through a hyperlink resulting from this URL, is not and shall not be deemed to be, incorporated into this annual report). If we amend the provisions of our code of ethics that apply to our chief executive officer, our chief financial officer, our principal accounting officer and persons performing similar functions, or if we furnish a waiver to any such persons, we will disclose such amendment or waiver on our website at the same address.
ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Audit and Non-Audit Fees
The following table sets forth the fees billed to us by our independent registered and public accounting firm during the years ended December 31, 2009 and 2008. Our independent accounting firm is KPMG Auditores Independentes beginning in June 2007.
|Year ended December 31,|
|All other fees||-||-|
Audit Fees are the aggregated fees billed by KPMG Auditores Independentes for the audit of our consolidated and annual financial statements, reviews of interim financial statements and attestation services that are provided in connection with statutory and regulatory filings or engagements for the fiscal years of 2009 and 2008, respectively.
Audit-related fees are fees charged by KPMG Auditores Independentes for assurance and related services that are reasonably related to the performance of the audit or review of our financial statements.
Tax fees in the above table are for services related to tax compliance.
Audit Committee Approval Policies and Procedures
Our fiscal council currently serves as our audit committee for purposes of the Sarbanes-Oxley Act of 2002. Our fiscal council has not established pre-approval policies or procedures for recommending the engagement of our independent auditors for services to our Board of Directors. Pursuant to Brazilian law, our Board of Directors is responsible for the engagement of independent auditors. Brazilian law prohibits our independent auditors from providing any consulting services to our subsidiaries, or to us, that may impair their independence.
ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES
Under the listed company audit committee rules of the NYSE and the SEC, we must comply with Exchange Act Rule 10A-3, which requires that we establish an audit committee composed of members of the Board of Directors that meets specified requirements. We have designated and empowered our fiscal council to perform the role of the audit committee in reliance on the exemption set forth in Exchange Act Rule 10A-3(c)(3). In our assessment, our fiscal council acts independently in performing the responsibilities of an audit committee under the Sarbanes-Oxley Act and satisfies the other requirements of Exchange Act Rule 10A-3.
ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS
ITEM 16F. CHANGE IN REGISTRANTS CERTIFYING ACCOUNTANT
ITEM 16G.CORPORATE GOVERNANCE
The following chart summarizes the ways that our corporate governance practices differ from those followed by domestic companies under the listing standards under the New York Stock Exchange:
|Section of the New York Stock Exchange Listed Company Manual||New York Stock Exchange Listing Standard||Ways that CPFLs Corporate Governance Practices Differ from Those Followed by Domestic Companies Listed on the New York Stock Exchange|
A company listed on the New York Stock Exchange (a listed company) must have a majority of independent directors on its Board of Directors. Controlled companies are not required to comply with this requirement.
CPFL is a controlled company, because more than a majority of its voting power is controlled by VBC Energia, PREVI (through BB Carteira Livre I Fundo de Investimento em Ações) and Bonaire Participações S.A. As a controlled company, CPFL would not be required to comply with the majority of independent directors requirements if it were a U.S. domestic issuer. CPFL has one independent director, as defined by CVM rules.
|Section of the New York Stock Exchange Listed Company Manual||New York Stock Exchange Listing Standard||Ways that CPFLs Corporate Governance Practices Differ from Those Followed by Domestic Companies Listed on the New York Stock Exchange|
The non-management directors of a listed company must meet at regularly scheduled executive sessions without management.
The non-management directors of CPFL do not meet at regularly scheduled executive sessions without management.
A listed company must have a Nominating/Corporate Governance Committee composed entirely of independent directors, with a written charter that covers certain minimum specified duties. Controlled companies are not required to comply with this requirement.
As a controlled company, CPFL would not be required to comply with the Nominating/Corporate Governance Committee requirements if it were a U.S. domestic issuer. Nonetheless, in order to improve its corporate governance practices, CPFL constituted the Corporate Governance Commission. It has four members: the CEO and three members of the Board of Directors. This Commission is responsible for evaluating the effectiveness of CPFLs corporate governance practices, proposing improvements to CPFLs governance practices, and monitoring the implementation of CPFLs corporate governance practices.
A listed company must have a compensation committee composed entirely of independent directors, with a written charter that covers certain minimum specified duties. Controlled companies are not required to comply with this requirement.
As a controlled company, CPFL would not be required to comply with the compensation committee requirements. The Human Resources Management Committee of CPFL is an advisory committee of the Board of Directors. It has three members who are all directors, none of whom is independent. According to its charter, this committee is responsible for assisting the Board of Directors by: (i) coordinating the CEO selection process, (ii) defining criteria for compensation of the executive officers, including long and short-term incentive plans, (iii) defining performance goals of the executive officers, (iv) coordinating evaluation procedures of the executive officers, (v) preparation of the plan of succession for executive officers and (vi) monitoring the execution of human resources policies and practices and preparing improvement proposals when necessary.
|Section of the New York Stock Exchange Listed Company Manual||New York Stock Exchange Listing Standard||Ways that CPFLs Corporate Governance Practices Differ from Those Followed by Domestic Companies Listed on the New York Stock Exchange|
303A.06 and 303A.07
A listed company must have an audit committee with a minimum of three independent directors that satisfy the independence requirements of Rule 10A-3 under the Exchange Act, with a written charter that covers certain minimum specified duties.
In lieu of appointing an audit committee composed of independent members of the Board of Directors, CPFL has a permanent conselho fiscal, or fiscal council, in accordance with the applicable provisions of the Brazilian Corporate Law, and CPFL has granted the fiscal council with additional powers that meet the requirements of Exchange Act Rule 10A-3(c)(3). Under Brazilian Corporate Law, which enumerates standards for the independence of the fiscal council from CPFL and its management, none of the members of the fiscal council may be: (i) members of the Board of Directors; (ii) members of the board of executive officers; (iii) employed by CPFL or an affiliate or company controlled by CPFL or (iv) a spouse or relative of any member of the companys management or Board of Directors. Members of the fiscal council are elected at the companys general shareholders meeting for a one-year term of office. The fiscal council of CPFL currently has five members, all of whom comply with standards (i) to (iv) above. The responsibilities of the fiscal council, which are set forth in its charter, includes reviewing managements activities and the companys financial statements, and reporting findings to the companys shareholders.
Shareholders must be given the opportunity to vote on all equity-compensation plans and material revisions thereto, with limited exemptions set forth in the NYSE rules.
Under Brazilian Corporate Law, shareholder pre-approval is required for the adoption of any equity compensation plans.
A listed company must adopt and disclose corporate governance guidelines that cover certain minimum specified subjects.
CPFL has formal corporate governance guidelines that address all of the matters specified in the NYSE rules.
A listed company must adopt and disclose a code of business conduct and ethics for directors, officers and employees, and promptly disclose any waivers of the code for directors or executive officers.
CPFL has a formal Code of Ethics that applies to its directors, officers, employees and controlling shareholders. CPFLs Code of Ethics has a scope that is similar, but not identical, to that required for a U.S. domestic company under the NYSE rules. CPFL reports each year under Item 16B of our annual report on Form 20-F any waivers of the code of ethics in favor of our chief executive officer, our chief financial officer, our principal accounting officer and persons performing similar functions. We will disclose such amendment or waiver on our website.
Each listed company CEO must certify to the NYSE each year that he or she is not aware of any violation by the company of NYSE corporate governance listing standards.
CPFLs CEO provides to the NYSE a Foreign Private Issuer Annual Written Affirmation, and he will promptly notify the NYSE in writing after any executive officer of CPFL becomes aware of any material non-compliance with any applicable provisions of the NYSE corporate governance rules.
ITEM 17. FINANCIAL STATEMENTS
ITEM 18. FINANCIAL STATEMENTS
See pages F-1 through F-105, incorporated herein by reference.
|1.1||Amended and Restated Bylaws of CPFL Energia S.A. (together with an English version).|
|8.1||List of subsidiaries, their jurisdiction of incorporation and names under which they do business.|
|10.1||Shareholders Agreement dated March 22, 2002 as amended on August 27, 2002, November 5, 2003 and December 6, 2007 among VBC Energia S.A., 521 Participações S.A., Bonaire Participações S.A. and CPFL Energia S.A.|
|12.1||Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.|
|12.2||Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.|
|13.1||Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.|
|13.2||Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.|
The amount of long-term debt securities of CPFL Energia or its subsidiaries authorized under any outstanding agreement does not exceed 10.0% of CPFL Energias total assets on a consolidated basis. CPFL Energia hereby agrees to furnish the SEC, upon its request, a copy of any instruments defining the rights of holders of its long-term debt or of its subsidiaries for which consolidated or unconsolidated financial statements are required to be filed.
GLOSSARY OF TERMS
ABRADEE: Brazilian Association of Electric Energy Distributors (Associação Brasileira de Distribuidores de Energia Elétrica).
ANEEL: National Electric Energy Agency (Agência Nacional de Energia Elétrica).
Annual Reference Value: Mechanism which limits the amounts of costs that can be passed through to Final Consumers. The Annual Reference Value corresponds to the weighted average of electricity acquisition costs resulting from electricity prices of all public auctions carried out by ANEEL and CCEE in the regulated market for electricity to be delivered five and three years from any such auction and only applies during the first three years following the commencement of delivery of the acquired electricity.
Assured energy: Amount of energy that generators are allowed to sell in long-term contracts.
Basic Network: Interconnected transmission lines, dams, energy transformers and equipment with voltage equal to or higher than 230 kV, or installations with lower voltage as determined by ANEEL.
Capacity Agreement: Agreement under which a generator commits to make a certain amount of capacity available to the Regulated Market. In such case, the generators revenue is guaranteed and the distributors must bear the risk of a supply shortage.
CCC: Fuel Usage Quota.
CCEAR: Regulated Market (Contratos de Comercialização de Energia no Ambiente Regulado).
CCEE: Energy Trading Chamber (Câmara de Comercialização de Energia Elétrica). The short-term electricity market, established in 1998 through the Power Industry Law, which replaced the prior system of regulated generation prices and supply contracts, formerly known as the Wholesale Energy Market.
CMCE: Energy Industry Monitoring Committee (Comitê de Monitoramento do Setor Elétrico).
CNPE: National Energy Policy Council (Conselho Nacional de Política Energética).
Distribution Network: Electric network system that distributes energy to end consumers within a concession area.
Distributor: An entity supplying electric energy to a group of consumers by means of a distribution network.
Energy Agreement: Agreement under which a generator commits to supply a certain amount of electricity and assumes the risk that its electricity supply could be adversely affected by hydrological conditions and low reservoir levels, which could interrupt the supply of electricity. In such a case, the generator would be required to purchase electricity elsewhere in order to comply with its supply commitments.
Final Consumer: A party that uses electricity for its own needs.
Free Consumers: (i) Existing consumers with demand of at least 10 MW and supplied at voltage level equal to or greater than 69 kV; (ii) new consumers with demand of at least 3 MW at any voltage; (iii) groups of consumers subject to agreement with the local distribution concessionaire; (iv) consumers who do not receive supply for more than 180 days from a local distribution concessionaire; and (v) certain others.
Free Market: Market segment that permits a certain degree of competition. The free market specifically contemplates purchase of electricity by non-regulated entities such as Free Consumers and energy traders.
Gigawatt (GW): One billion watts.
Gigawatt hour (GWh): One gigawatt of power supplied or demanded for one hour, or one billion watt hours.
High voltage: A class of nominal system voltages equal to or greater than 100,000 volts (100 kVs) and less than 230,000 volts (230 kVs).
Hydroelectric plant or hydroelectric facility: A generator that uses water power to drive the electric generator.
Initial Supply Contracts: Initial energy supply agreements at prices and volumes approved by ANEEL, that distribution and generation companies are required to enter into per the 1998 Power Industry Law.
Installed capacity: The level of electricity which can be delivered from a particular generator on a full-load continuous basis under specified conditions as designated by the manufacturer.
Interconnected Power System: Systems or networks for the transmission of energy, connected together by means of one or more links (lines and/or transformers).
Independent Power Producer: A legal entity or consortium holding a concession or authorization for power generation for sale for its own account to public utility concessionaires.
Kilovolt (kV): One thousand volts.
Kilowatt (kW): One thousand watts.
Kilowatt hour (kWh): One kilowatt of power supplied or demanded for one hour, or one thousand watt hours.
Megawatt (MW): One million watts.
Megawatt hour (MWh): One megawatt of power supplied or demanded for one hour, or one million watt hours.
MME: Ministry of Mines and Energy (Ministério de Minas e Energia).
MRE: Energy Reallocation Mechanism (Mecanismo de Realocação de Energia).
ONS: National System Operator (Operador Nacional do Sistema), an entity responsible for operational planning, administration of generation and transmission and planning of transmission investments in the power industry.
Parcel A costs: Costs that include, among others, the following: (i) costs of electricity purchased for resale pursuant to Initial Supply Contracts; (ii) costs of electricity purchased from Itaipu; (iii) costs of electricity purchased pursuant to bilateral agreements that are freely negotiated between parties; and (iv) certain other charges for the transmission and distribution systems.
Parcel B costs: Costs that are under control of distributors. Such costs are determined by subtracting all of the Parcel A costs from the distribution companys revenues, excluding ICMS and PIS/COFINS, a state and federal tax levied on sales. Parcel B costs include, among others, the return on investment related to concessions and their expansion, as well as maintenance and operational costs.
Rationing Program: The Brazilian government program to reduce electricity consumption that was in effect from June 1, 2001 to February 28, 2002 as a result of poor hydrological conditions that threatened the countrys electricity supply.
Regulated market: Market segment in which distribution companies purchase all the electricity needed to supply customers through public auctions. The auction process is administered by ANEEL, either directly or through CCEE, under certain guidelines provided by the MME. The regulated market is generally considered to be more stable in terms of supply of electricity.
Retail Distribution Tariff: Revenue charged by distribution companies to its customers. Each customer falls within a certain tariff level defined by law and based on the customers classification, although some flexibility is available according to the nature of each customers demand. Retails tariffs are subject to annual readjustments by ANEEL.
RTE: Extraordinary Tariff Adjustment (reajuste tarifário extraordinário).
Small hydroelectric power plants: Power projects with capacity from 1 MW to 30 MW.
Special consumer: A group of consumers that uses at least 500 kV. Special Consumers may only purchase energy from (i) small hydroelectric power plants with capacity between 1,000 kW and 30,000 kW, (ii) generators with capacity limited to 1,000 kW, and (iii) alternative energy generators (solar, wind and biomass enterprises) with capacity injected in the system not greater than 30,000 kW. A Special Consumer may terminate its contract with the local distributor with 180 days prior notice for contracts with indefinite terms.
Substation: An assemblage of equipment which switches and/or changes or regulates the voltage of electricity in a transmission and distribution system.
Thermoelectric power plant: A generator which uses combustible fuel, such as coal, oil, diesel natural gas or other hydrocarbon as the source of energy to drive the electric generator.
Transmission: The bulk transfer of electricity from generating facilities to the distribution system at load center station by means of the transmission grid (in lines with capacity between 69 kV and 525 kV).
Transmission Tariff: Revenue charged by a transmission concessionaire based on the transmission network it owns and operates. Transmission tariffs are subject to periodic revisions by ANEEL.
Volt: The basic unit of electric force analogous to water pressure in pounds per square inch.
Watt: The basic unit of electrical power.
Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant, CPFL Energia S.A., hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused this annual report to be signed on its behalf by the undersigned, thereunto duly authorized, in the city of Campinas, State of São Paulo, Brazil, on April 5, 2010.
|CPFL ENERGIA S.A.|
|By:||/s/ Wilson Ferreira, Junior|
|Name:||Wilson Ferreira, Junior|
|Title:||Chief Executive Officer (principal executive officer)|
|By:||/s/ Wilson Ferreira, Junior|
|Name:||Wilson Ferreira, Junior|
|Title:||Chief Financial Officer (principal financial officer)|
|KPMG Auditores Independentes||Central Tel||55 (19) 2129-8700|
|Av. Barão de Itapura, 950 - 6º||Fax||55 (19) 2129-8728|
|13020-431 - Campinas, SP - Brasil||Internet||www.kpmg.com.br|
|Caixa Postal 737|
|13012-970 - Campinas, SP - Brasil|
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of
CPFL Energia S.A.
We have audited the accompanying consolidated balance sheets of CPFL Energia S.A. and subsidiaries (the Company) as of December 31, 2009 and 2008, and the related consolidated statements of income, changes in shareholders’ equity, cash flows and added value for the years then ended. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinions.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of CPFL Energia S.A. and subsidiaries as of December 31, 2009 and 2008, and the results of their operations, changes in shareholders’ equity, cash flows and added value for the years then ended, in conformity with accounting practices adopted in Brazil.
Accounting practices adopted in Brazil vary in certain significant respects from U.S. generally accepted accounting principles. Information relating to the nature and effect of such differences is presented in Note 35 to the consolidated financial statements.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), CPFL Energia S.A. and subsidiaries internal control over financial reporting as of December 31, 2009, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated on March 26, 2010, expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.
/s/ KPMG Auditores Independentes
KPMG Auditores Independentes
Campinas, Brazil March
|CPFL ENERGIA S.A. AND SUBSIDIARIES|
|CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 2009 AND 2008|
|(In thousands of Brazilian reais – R$)|
|Cash and cash equivalents (note 4)||1,473,175||737,847|
|Financial investments (note 5)||39,253||38,249|
|Accounts receivable (note 6)||1,840,107||1,721,028|
|Allowance for doubtful accounts (note 7)||(81,974)||(82,462)|
|Recoverable taxes (note 8)||190,983||174,294|
|Materials and supplies||17,360||15,594|
|Deferred cost variations (note 3)||332,813||638,229|
|Prepaid expenses (note 9)||124,086||101,882|
|Derivatives (note 31)||795||36,520|
|Deferred taxes (note 10)||162,779||220,144|
|Other (note 11)||145,055||110,793|
|Accounts receivable (note 6)||226,314||286,144|
|Escrow deposits (note 20)||654,506||599,973|
|Financial investments (note 5)||79,836||96,786|
|Recoverable taxes (note 8)||110,014||101,948|
|Deferred cost variations (note 3)||42,813||157,435|
|Prepaid expenses (note 9)||64,201||99,210|
|Derivatives (note 31)||7,881||396,875|
|Deferred taxes (note 10)||1,117,736||1,132,736|
|Other credits (note 11)||160,760||221,330|
|Property, plant and equipment (note 12)||7,487,216||6,614,347|
|Intangible assets (note 13)||2,554,400||2,700,136|
The accompanying notes are an integral part of these consolidated financial statements.
F - 1
|CPFL ENERGIA S.A. AND SUBSIDIARIES|
|CONSOLIDATED BALANCE SHEETS AS OF DECEMBER 31, 2009 AND 2008|
|(In thousands of Brazilian reais – R$)|
|LIABILITIES AND SHAREHOLDERS’ EQUITY||2009||2008|
|Suppliers (note 14)||1,021,348||982,344|
|Taxes and payroll charges payable (note 19)||492,234||464,339|
|Dividends and interest on shareholders’ equity||684,185||632,087|
|Accrued interest on loans and financing (note 15)||26,543||29,081|
|Accrued interest on debentures (note 16)||101,284||102,112|
|Post-retirement benefit obligation (note 17)||44,484||44,088|
|Regulatory charges (note 18)||62,999||94,054|
|Loans and financing (note 15)||697,223||523,167|
|Debentures (note 16)||499,025||580,076|
|Deferred gain variations (note 3)||313,463||165,871|
|Derivatives (note 31)||7,012||53,443|
|Reserve for contingencies (note 20)||-||15|
|Other (note 21)||584,614||524,898|
|Suppliers (note 14)||42,655||85,311|
|Accrued interest on loans and financing (note 15)||62,427||74,104|
|Loans and financing (note 15)||3,515,236||3,836,882|
|Debentures (note 16)||2,751,169||2,026,890|
|Post-retirement benefit obligation (note 17)||425,366||508,194|
|Taxes and social contribution payable (note 19)||6,015||6,445|
|Reserve for contingencies (note 20)||38,181||107,642|
|Deferred gain variations (note 3)||108,691||40,779|
|Derivatives (note 31)||5,694||961|
|Other (note 21)||161,540||207,194|
|SHAREHOLDERS’ EQUITY (note 22)|
|Common stock (without par value, 2009 and 2008 - 479,910,938 shares|
|issued and outstanding)||4,741,175||4,741,175|
|TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY||16,869,991||16,243,172|
The accompanying notes are an integral part of these consolidated financial statements.
F - 2
|CPFL ENERGIA S.A. AND SUBSIDIARIES|
|CONSOLIDATED STATEMENTS OF INCOME FOR THE YEARS|
|ENDED DECEMBER 31, 2009, 2008 AND 2007|
|(In thousands of Brazilian reais – R$, except for share and per share amounts)|
|OPERATING REVENUES (note 23)|
|Electricity sales to final consumers||13,459,696||12,294,614||12,355,216|
|Electricity sales to wholesalers||1,199,081||948,339||682,942|
|DEDUCTIONS FROM OPERATING REVENUES|
|Contribution to concession reserve fund (RGR)||(53,160)||(48,446)||(52,250)|
|ICMS (state VAT)||(2,613,245)||(2,440,661)||(2,477,084)|
|COFINS/PIS (taxes on revenue)||(1,397,882)||(1,307,592)||(1,347,865)|
|ISS (service tax)||(3,629)||(2,971)||(1,749)|
|Fuel Consumption Account - CCC||(484,443)||(365,447)||(425,860)|
|Energy Development Account - CDE||(439,066)||(408,979)||(398,427)|
|Research and development and energy efficiency||(99,792)||(92,008)||(94,565)|
|Emergency charges (ECE/EAEE)||(71)||(1)||(49)|
|NET OPERATING REVENUES||10,565,982||9,681,866||9,390,767|
|Electricity purchased for resale (note 24)||(5,359,571)||(4,763,730)||(4,033,512)|
|Electricity network usage charges (note 24)||(1,171,451)||(903,788)||(702,781)|
|Post-retirement benefit obligation (note 17)||(3,678)||84,151||46,887|
|Depreciation and amortization||(353,052)||(339,809)||(341,492)|
|Services cost rendered to third parties||(5,387)||(7,457)||(6,441)|
|OPERATING EXPENSES (note 25)|
|Sales and marketing||(255,114)||(246,461)||(428,053)|
|General and administrative||(384,086)||(385,172)||(353,904)|
|Amortization of intangible assets||(186,899)||(192,029)||(176,306)|
F - 3
|CPFL ENERGIA S.A. AND SUBSIDIARIES|
|CONSOLIDATED STATEMENTS OF INCOME FOR THE YEARS|
|ENDED DECEMBER 31, 2009, 2008 AND 2007|
|(In thousands of Brazilian reais – R$, except for share and per share amounts)|
|FINANCIAL INCOME (EXPENSE) (note 26)|
|INCOME BEFORE TAXES AND NONCONTROLLING|
|Social contribution tax (note 10)||(155,459)||(168,957)||(232,104)|
|Income tax (note 10)||(428,847)||(467,281)||(594,525)|
|INCOME BEFORE NONCONTROLLING INTEREST||1,301,082||1,285,461||1,645,921|