SECURITIES AND EXCHANGE COMMISSION
Date of event requiring this shell company report ________________
Commission file number
(Exact name of Registrant as specified in its charter)
Basic Sanitation Company of the State of São Paulo-SABESP
(Translation of the Registrant’s name into English)
Federative Republic of
(Jurisdiction of incorporation or organization)
(Address of principal executive offices)
Rua Costa Carvalho, 300 05429-900 São Paulo, SP, Brazil
Securities registered or to be registered pursuant to Section 12(b) of the Act:
|Title of each class||Trading Symbols(s)||Name of each exchange on which registered|
|Common Shares, without par value||Not traded||New York Stock Exchange*|
each representing one Common Share
Shares are not listed for trading, but only in connection with the registration of American Depositary Receipts pursuant to the requirements of the New York Stock Exchange.
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
Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.
Shares of Common Stock
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 every Interactive Data File required to be submitted 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 such ﬁles).
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
|Accelerated Filer o|
|Non-accelerated Filer o||Emerging Growth Company |
If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards† provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:
|U.S. GAAP o||Other o|
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 o Item 18 o
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).
† The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.
TABLE OF CONTENTS
|ITEM 1.||IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS||9|
|ITEM 2.||OFFER STATISTICS AND EXPECTED TIMETABLE||9|
|ITEM 3.||KEY INFORMATION||9|
|ITEM 4.||INFORMATION ON THE COMPANY||27|
|ITEM 4A.||UNRESOLVED STAFF COMMENTS||76|
|ITEM 5.||OPERATING AND FINANCIAL REVIEW AND PROSPECTS||77|
|ITEM 6.||DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES||102|
|ITEM 7.||MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS||114|
|ITEM 8.||FINANCIAL INFORMATION||121|
|ITEM 9.||THE OFFER AND LISTING||124|
|ITEM 10.||ADDITIONAL INFORMATION||127|
|ITEM 11.||QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK||138|
|ITEM 12.||DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES||140|
|ITEM 13.||DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES||141|
|ITEM 14.||MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS||141|
|ITEM 15.||CONTROLS AND PROCEDURES||141|
|ITEM 16A.||AUDIT COMMITTEE FINANCIAL EXPERT||142|
|ITEM 16B.||CODE OF ETHICS||143|
|ITEM 16C.||PRINCIPAL ACCOUNTANT FEES AND SERVICES||143|
|ITEM 16D.||EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES||143|
|ITEM 16E.||PURCHASES OF EQUITY SECURITIES BY ISSUER AND AFFILIATED PURCHASERS||144|
|ITEM 16F.||CHANGE IN REGISTRANT’S CERTIFYING ACCOUNTANT||144|
|ITEM 16G.||CORPORATE GOVERNANCE||144|
|ITEM 16H.||MINE SAFETY DISCLOSURE||150|
|ITEM 16I.||DISCLOSURE REGARDING FOREIGN JURISDICTIONS THAT PREVENT INSPECTIONS||150|
|ITEM 17.||FINANCIAL STATEMENTS||150|
|ITEM 18.||FINANCIAL STATEMENTS||150|
PRESENTATION OF FINANCIAL AND OTHER INFORMATION
We maintain our books and records in reais. We prepare our financial statements in accordance with International Financial Reporting Standards, or “IFRS,” as issued by the International Accounting Standards Board, or the “IASB.” Our audited financial statements as of December 31, 2021 and 2020 for each of the years in the three-year period ended December 31, 2021 are included in this annual report on Form 20-F.
Certain figures included in this annual report have been subject to rounding adjustments. Accordingly, figures shown as totals in certain tables may not be an arithmetic aggregation of the figures which precede them.
In this annual report, unless the context otherwise requires, references to “we,” “us,” “our,” “Company,” or “SABESP” refer to Companhia de Saneamento Básico do Estado de São Paulo – SABESP.
In addition, references to:
|·||“ANA” are to the National Water and Sanitation Agency (Agência Nacional de Águas e Saneamento Básico);|
|·||“ARSESP” are to the São Paulo State Public Services Regulatory Agency (ARSESP - Agência Reguladora de Serviços Públicos do Estado de São Paulo);|
|·||“ADR” or “ADRs” are to American Depositary Receipt or American Depositary Receipts, respectively;|
|·||“ADS” or “ADSs” are to American Depositary Share or American Depositary Shares, respectively;|
|·||“Basic Sanitation Law” are to Law No. 11,445/2007 of the Federative Republic of Brazil, as amended;|
|·||“BNDES” are to Brazilian National Bank for Economic and Social Development (Banco Nacional de Desenvolvimento Econômico e Social);|
|·||“Brazil” are to the Federative Republic of Brazil;|
|·||“Central Bank” are to the Central Bank of Brazil;|
|·||“Coverage” indicators are to (a) the number of homes that are actually connected to the water network or sewage collection network, plus the number of homes for which the water and sewage networks are available for connection, but which are not connected to those networks (referred to as “feasible” or “connectable” homes), as a portion of (b) the total number of homes within the urbanized service area covered by our contract with the municipality (i.e., the “serviceable area”);|
|·||“COVID-19” or “Coronavirus” are to the SARS-CoV-2 2019 coronavirus pandemic;|
|·||“CVM” are to the Comissão de Valores Mobiliários, the Brazilian securities and exchange commission;|
|·||“FAPESP” are to the Fundação de Amparo à Pesquisa do Estado de São Paulo, the São Paulo State Research Foundation;|
|·||“federal government” and “Brazilian government” are to the federal government of the Federative Republic of Brazil and “São Paulo state government” are to the state government of the State of São Paulo;|
|·||“IBRD” are to the International Bank for Reconstruction and Development;|
|·||“IDB” are to the Interamerican Development Bank;|
|·||“New Legal Framework for Basic Sanitation” are to Law No. 14,026/2020 of the Federative Republic of Brazil;|
|·||“¥” or “Japanese Yen” are to the official currency of Japan;|
|·||“program contract” are to certain inter-federative cooperation agreements entered into within the scope of associated management (pursuant to Art. 241 of the Brazilian Federal Constitution), whereby the provision of public services is delegated to third parties or liabilities, services, personnel or goods necessary for the continuity of public services are totally or partially transferred to third parties;|
|·||“real,” “reais” or “R$” are to the Brazilian real, the official currency of Brazil;|
|·||“Regional Systems” are to the area where the regional systems’ executive office operates, comprising 334 Municipalities in the interior and coastline regions of the state of São Paulo;|
|·||“São Paulo metropolitan region,” with respect to our operations, are to the area where the metropolitan executive office operates, comprising 41 Municipalities, including the city of São Paulo;|
|·||“Service” indicators are to (a) the number of homes that are actually connected to the water network or sewage collection network, as a portion of (b) the total number of homes within a given serviceable area;|
|·||“Sewage Treatment Coverage” indicators are to the amount of consumer units connected to the sewage treatment system;|
|·||“State” are to the State of São Paulo, which is also our controlling shareholder;|
|·||“URAE” are to Regional Unit for Drinking Water Supply and Sewage Services (Unidade Regional de Serviços de Abastecimento de Água Potável e Esgotamento Sanitário);|
|·||“U.S. dollars” or “US$” are to the United States dollar, the official currency of the United States;|
|·||“water crisis” are to the drought we experienced from late 2013 and throughout most of 2015. This drought, the most serious that our service region has experienced in the previous 80 years, primarily affected the Cantareira System, our largest water production system; and|
|·||“WHO” are to the World Health Organization.|
Information in this annual report related to liters, water and sewage volumes, number of employees, kilometers, water and sewage connections, population served, operating productivity, water production, water and sewage lines (in kilometers), water loss index and investment in programs has not been audited.
We make statements in this annual report about our market share and other information relating to Brazil and the industry in which we operate. We have made these statements on the basis of information from third-party sources and publicly available information that we believe is reliable, such as information and reports from the Brazilian Institute of Geography and Statistics (Instituto Brasileiro de Geografia e Estatística), or IBGE, and the State Data Analysis System Foundation (Fundação Sistema Estadual de Análise de Dados), or SEADE, among others. We have no reason to believe that any of this information is inaccurate in any material respect.
References to urban and total population in this annual report are estimated based on research prepared by SEADE entitled “Projections of Population and Residences for the Municipalities of the State of São Paulo: 2010-2050” (Projeção da População e dos Domicílios para os Municípios do Estado de São Paulo: 2010-2050).
Our Contracts and the Municipalities We Serve
Throughout this document,
we refer to the 375 Municipalities we serve and the two Municipalities in our wholesale segment (Mogi das Cruzes and São Caetano
do Sul), since our revenue for the fiscal year 2021 is derived from these Municipalities. Most of our contracts with the Municipalities
we serve are program contracts which have a term of 30 years.
CAUTIONARY STATEMENTS ABOUT FORWARD-LOOKING STATEMENTS
This annual report includes forward-looking statements, mainly in Items 3 through 5. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends affecting our business. These forward-looking statements are subject to risks, uncertainties and assumptions, including, among other factors:
|·||general economic, political, demographical, health and other conditions in Brazil and in other countries, including military conflict between Russia and Ukraine and its impacts on the global economy, as well as perception of risks in connection with the developments of the 2022 presidential elections in Brazil;|
|·||fluctuations in inflation, interest rates and exchange rates in Brazil;|
|·||duration and severity of the COVID-19 outbreak;|
|·||the impact of widespread health developments, such as COVID 19, and the governmental, regulatory, consumer and other responses thereto and its effects on our operating revenues and financial condition as a result of, inter alia, (i) change in the tariff mix, and (ii) an increase in delinquencies in certain sectors;|
|·||the interests of our controlling shareholder;|
|·||our potential corporate reorganization, as approved by State Law No. 16,525 on September 15, 2017, or any other type of reorganization that might be approved by the government that may include a change in our control;|
|·||the regulations issued by ARSESP regarding several aspects of our business, including resetting and adjusting our tariffs;|
|·||changes in applicable laws and regulations, as well as the enactment of new laws and regulations, including those relating to environmental, tax and employment matters in Brazil;|
|·||existing and future governmental regulation for sanitation services, competition in our concession area, and other matters;|
|·||our ability to continue to use certain reservoirs under current terms and conditions;|
|·||availability of our water supply, springs and storage systems;|
|·||the impact on our business of lower water consumption practices adopted by our customers during the water crisis which resulted in water savings and have not returned to their prior standards despite us maintaining a continuous supply of water to the São Paulo metropolitan region;|
|·||the size and growth of our customer base and its consumption habits;|
|·||any measures that we may be required to take to ensure the provision of water to our customers;|
|·||our exposure to probable increases in the frequency of extreme weather conditions, including droughts and intensive rain and other climatic events;|
|·||the potential impacts on our business caused by the enactment of the New Legal Framework for Basic Sanitation, which introduced several changes that directly affect our operations, including the requirement to participate in new public bids in case the entity is not part of the administration of the holder, and the prohibition on entering into program contracts, agreements, partnership agreements and other unstable instruments for the provision of public sanitation services;|
the potential impact of the enactment of reference standards that should be taken into account by subnational sanitation regulatory agencies (municipal, intermunicipal, district and state) in their regulatory performance, since the New Legal Framework for Basic Sanitation determined that ANA is to be the regulatory authority of the sanitation sector at national level;
|·||our ability to comply with the requirements regarding water and sewage service levels included in our agreements with Municipalities, especially as a result of the changes brought by the New Legal Framework for Basic Sanitation, which establish that, by 2033, 90% and 99% of the population served must have access to sewage collection and treatment and access to drinking water, respectively, further requiring the adequacy of contracts that did not have such targets until March 31, 2022. Also, according to Federal Decree No. 11,030/2022, the adequacy of our contracts will depend on the analysis by the federal regulator (ANA), that will only occur in the future;|
|·||the Municipalities’ ability to terminate our existing concession agreements prior to their expiration date and our ability to renew such agreements;|
|·||our ability to collect amounts owed to us by our controlling shareholder, states, the federal government and Municipalities;|
|·||our capital expenditure program and other liquidity and capital resources requirements;|
|·||the effects of the agreement for provision of water and sewage services in the city of São Paulo, which we executed with the State and the city of São Paulo considering that ARSESP has limited the pass-through to tariff of values transferred to municipal infrastructure funds to 4%;|
|·||our management’s expectations and estimates relating to our future financial performance;|
|·||our level of debt and limitations on our ability to incur additional debt;|
|·||our ability to access financing with favorable terms in the future;|
|·||the costs we incur in complying with environmental laws and any penalties for failure to comply with these laws;|
|·||the outcome of our pending or future legal proceedings;|
|·||the delay or postponement in investment in our sewage system;|
|·||the possibility to be subject to other regulatory agencies other than ARSESP;|
|·||power shortages, rationing of energy supply or significant changes in energy tariffs;|
|·||other risk factors as set forth under “Item 3.D. Risk Factors;” and|
|·||as well as the potential impacts of the New Tariff Structure to be implemented.|
The words “believe,” “may,” “estimate,” “continue,” “anticipate,” “plan,” “intend,” “expect” and similar words are intended to identify forward-looking statements. In light of these risks and uncertainties, the forward-looking events and circumstances discussed in this annual report might not occur. Our actual results could differ substantially from those anticipated in our forward-looking statements. Forward-looking statements speak only as of the date they were made, and we do not undertake any obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, unless required by law. Any such forward-looking statements are not an indication of future performance and involve risks.
|ITEM 1.||IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS|
|ITEM 2.||OFFER STATISTICS AND EXPECTED TIMETABLE|
|ITEM 3.||KEY INFORMATION|
|B.||Capitalization and Indebtedness|
|C.||Reasons for the Offer and Use of Proceeds|
Risks Relating to Brazil
The Brazilian government has exercised, and continues to exercise, significant influence over the Brazilian economy. This influence, as well as Brazilian political and economic conditions, could adversely affect us and the market price of our common shares and ADSs.
The Brazilian government frequently intervenes in the Brazilian economy and occasionally makes significant changes in policy and regulations. The Brazilian government’s actions to control inflation and other policies and regulations have often involved, among other measures, changes in interest rates, tax policies, price and tariff controls, currency devaluation or appreciation, capital controls and limits on imports. Our business, financial condition and results of operations, as well as the market price of our common shares or ADSs, may be adversely affected by changes in public policy at federal, state and municipal levels with respect to public tariffs and exchange controls, as well as other factors, such as:
|·||expansion or retraction of the Brazilian economy;|
|·||the regulatory environment related to our business operations and concession agreements;|
|·||interest rates and monetary policies;|
|·||exchange rates and exchange controls and restrictions on remittances abroad;|
|·||availability of credit;|
|·||changes in labor regulations;|
|·||political elections and social and political instability;|
|·||liquidity of the Brazilian capital and lending markets;|
|·||tax and regulatory policies and laws;|
|·||economic and social instability;|
|·||water and electricity rationing;|
|·||the Brazilian government’s response to the COVID-19 pandemic and, inter alia, its impacts on water consumption, labor laws and other regulations affecting our industry. For further information regarding risks relating to infectious diseases including the novel coronavirus, see “—Risks Relating to Our Business— Our financial and operating performance may be adversely affected by epidemics, natural disasters and other catastrophes, such as the outbreak of COVID-19;” and|
|·||other political, foreign policy, social and economic developments in or affecting Brazil.|
Uncertainty as to whether the Brazilian government will implement changes in policy or regulation affecting these or other factors in the future, may affect economic performance and contribute to economic uncertainty in Brazil, as well as higher volatility in the Brazilian capital markets and the securities of Brazilian issuers, which may have an adverse effect on us. We cannot predict the measures that the federal government will take due to mounting macroeconomic pressures or otherwise. Economic and political instability and uncertainty has led to a negative perception of the Brazilian economy and higher volatility in the Brazilian capital markets and the securities of Brazilian issuers, which may adversely affect us. We cannot predict what future policies will be adopted by current or future Brazilian governments, or whether these policies will result in adverse consequences to the Brazilian economy or cause an adverse effect on us.
Ongoing political instability has adversely affected the Brazilian economy and may have an adverse effect on our financial condition and results of operations.
Brazil’s political environment has historically influenced, and continues to influence, the performance of the country’s economy. Political crises have affected and continue to affect the confidence of investors and the general public, which have historically resulted in economic deceleration and heightened volatility in the securities issued by Brazilian companies.
Brazil has experienced amplified economic and political instability, as well as heightened volatility, as a result of various ongoing investigations by the Brazilian Federal Prosecutors’ Office (Ministério Público Federal), the Brazilian Federal Police (Polícia Federal), the CVM, and other Brazilian public entities who are responsible for corruption and cartel investigations. In addition, certain foreign entities, such as the U.S. Department of Justice, the SEC and the Office of the Attorney General of Switzerland (Bundesanwaltschaft), have also conducted and still conduct their own investigations. These investigations have negatively impacted the Brazilian economy and political environment and have contributed to a decline in market confidence in Brazil. In addition, they may lead to further allegations and charges against Brazilian federal and São Paulo state government officials and senior management of Brazilian industry.
Numerous elected officials, public servants and executives and other personnel of major companies have been subject to investigation, arrest, criminal charges and other proceedings. There can be no assurance that other federal or state officials or senior management of Brazilian industry will not be charged with corruption-related crimes or other investigations into corruption. Additional allegations, trials and convictions may lead to political instability and a decline in confidence by consumers and foreign direct investors in the stability and transparency of the Brazilian government and Brazilian companies and may have a material adverse effect on Brazil’s economic growth, on the demand for securities issued by Brazilian companies, and on access to the international financial markets by Brazilian companies.
Government interference in the economy, or the results of future elections may impact adversely the macroeconomic indicators mentioned (see “Item 3.D. Risk Factors—Risks Relating to Brazil—The Brazilian government has exercised, and continues to exercise, significant influence over the Brazilian economy. This influence, as well as Brazilian political and economic conditions, could adversely affect us and the market price of our common shares and ADSs”), affecting market activity and us.
Also, presidential elections will be held in Brazil in 2022. Historically, in election years, especially presidential elections, there has been political instability, which if repeated, may have an adverse effect on Brazilian capital markets, resulting in reduced levels of foreign investment in Brazil.
Any of the above factors may create additional political uncertainty, which could harm the Brazilian economy and, consequently, our business, results of operations and financial condition and the trading price of our common shares and ADSs.
Inflation and the Brazilian government’s measures to combat inflation may contribute to economic uncertainty in Brazil, adversely affecting us and the market price of our common shares or ADSs.
Brazil has historically experienced high rates of inflation and the Brazilian government’s measures to combat it have had and may in the future have significant effects on the Brazilian economy and our business, financial condition and results of our operations. Tight monetary policies with high interest rates may restrict Brazil’s growth, the availability of credit and our cost of funding. Conversely, other Brazilian governmental actions, including lowering interest rates, intervention in the foreign exchange market and actions to adjust or fix the value of the real, may trigger increases in inflation. Brazil’s General Price Index (Índice Geral de Preços – Mercado), or IGP-M index, recorded inflation of 17.78% in 2021, 23.1% in 2020, and 7.30% in 2019. The Special Clearing and Settlement System (Sistema Especial de Liquidação e Custódia), or SELIC, the official overnight interest rate in Brazil, was 9.15%, 1.90% and 4.40% at the end of 2021, 2020 and 2019, respectively. However, the COPOM has frequently adjusted the interest rate in situations of economic uncertainty and to achieve objectives under the economic policy of the Brazilian government. For example, in response to the COVID-19 outbreak, the COPOM reduced the SELIC target rate to 2% between August 2020 and March 2021, after which it was raised numerous times, most recently to 11.75% to mitigate the increase in inflation, where it remains as of the date of this annual report. Inflation, along with government measures to combat inflation and public speculation about possible future government measures, has had significant negative effects on the Brazilian economy, and contributed to economic uncertainty in Brazil and heightened volatility in the Brazilian securities market, which may have an adverse effect on us if such policies are reinstated.
The Brazilian annual inflation rates, as measured by the Amplified Consumer Price Index (Índice Nacional de Preços ao Consumidor Amplo), or IPCA, were 10.06%, 4.52%, and 4.31% during 2021, 2020 and 2019, respectively. The IPCA in 2021 reached its highest accumulated annual inflation since 2015, according to data provided by the Brazilian Institute of Geography and Statistics (Instituto Brasileiro de Geografia e Estatística - IBGE). If Brazil continues to experience substantial high inflation or deflation in the future, our business, financial condition or results of operations may be adversely affected, including our ability to comply with our obligations. In addition, a substantial increase in inflation may weaken investors’ confidence in Brazil, causing a decrease in the market price of our common shares or ADSs.
Exchange rate instability and developments and the perception of risk in other countries, especially in the United States and in emerging market countries, may adversely affect us, our foreign currency denominated debt and the market price of our common shares or ADSs and our ability to service our foreign currency denominated obligations.
Brazil’s currency has been characterized historically by high degrees of volatility and has depreciated periodically in relation to the U.S. dollar and other foreign currencies during recent decades. At different points over this period, the Brazilian government has implemented various economic plans and exchange rate policies, including sudden devaluations, periodic mini devaluations during which the frequency of adjustments has ranged from daily to monthly, floating exchange rate systems, exchange controls and dual exchange rate markets.
The current floating exchange rate system has also contributed to significant fluctuations in the exchange rate between the Brazilian currency and the U.S. dollar and other currencies. As of December 31, 2019, the exchange rate was R$4.03 to US$1.00, representing a depreciation of 4.0% as compared to the rate prevailing as of December 31, 2018. As of December 31, 2020, the exchange rate was R$5.19 to US$1.00, representing a depreciation of 28.9% as compared to the rate prevailing as of December 31, 2019. Further, during 2021, the real was very volatile and depreciated by 7.4% against the U.S. dollar by year-end. As of April 22, 2022, the commercial selling rate as reported by the Central Bank was R$4.73 per US$1.00. There can be no assurance that the real will not depreciate further against the U.S. dollar.
Exchange rate fluctuations will affect the U.S. dollar equivalent of the real price of our common shares on the São Paulo Stock Exchange (B3 S.A. – Brasil, Bolsa, Balcão, or “B3”), as well as the U.S. dollar equivalent of any distributions we make in reais with respect to our common shares.
Depreciation of the Brazilian real against the U.S. dollar has created inflationary pressures in Brazil and has caused 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, curtail our access to financial markets and prompt government intervention, including recessionary governmental policies. Depreciation of the Brazilian real against the U.S. dollar could also lead to decreased consumer spending, inflationary pressures and reduced economic growth.
In the event of a significant devaluation of the Brazilian real in relation to the U.S. dollar or other currencies, our ability to meet our foreign currency denominated obligations could be adversely affected because our tariff revenue and other sources of income are denominated solely in reais. In addition, because we have debt denominated in foreign currencies, any significant devaluation of the real will increase our financial expenses as a result of foreign exchange losses that we must record. This will also increase our total debt, what could lead us to breach any debt/EBITDA covenants we are subject to in certain financings. We had total foreign currency denominated debt of R$3,296.1 million as of December 31, 2021, and we anticipate that we may incur additional amounts of foreign currency denominated debt in the future. We do not currently have any derivative instruments in place to protect us against a devaluation of the real in relation to any foreign currency. A devaluation of the real may adversely affect us and the market price of our common shares or ADSs. For more information, see Note 5.1(a) to our 2021 financial statements. Further, the market price of securities of Brazilian companies is affected to varying degrees by economic and market conditions in other countries, including the United States, China and other Latin American and emerging market countries. Although economic conditions in these countries may differ significantly from economic conditions in Brazil, investors’ reactions to developments in these other countries may have an adverse effect on the market price of securities of Brazilian issuers. Crises in other emerging market countries or economic policies of other countries may diminish investor interest in securities of Brazilian issuers, including ours. This could adversely affect the market price of our common shares or ADSs 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.
In the past, the adverse development of economic conditions in emerging markets resulted in a significant flow of funds out of Brazil and a decrease in the quantity of foreign capital invested in Brazil. Changes in the prices of securities of public companies, lack of available credit, reductions in spending, general slowdown of the global economy, exchange rate instability and inflationary pressure may adversely affect, directly or indirectly, the Brazilian economy and securities market. Global economic downturns and related instability in the international financial system have had, and may continue to have, a negative effect on economic growth in Brazil. Global economic downturns reduce the availability of liquidity and credit to fund the continuation and expansion of business operations worldwide.
In addition, global financial crises have caused, and in the future may again cause, significant consequences to Brazil, such as stock and credit market volatility, unavailability of credit, higher interest rates, a general slowdown of the world economy, volatile exchange rates, and inflationary pressure, among others, which may, directly or indirectly, materially and adversely affect us and the price of securities issued by Brazilian companies, including our common shares and ADSs.
Downgrades in Brazil’s credit rating could adversely affect our credit rating, the cost of our indebtedness and the trading price of the securities.
Rating agencies regularly evaluate Brazil and its sovereign ratings, taking into account a number of factors, including macroeconomic trends, fiscal and budgetary conditions, indebtedness and the prospect of change in these factors. Downgrades in Brazil’s credit rating can lead to downgrades in our credit rating and increase the cost of our indebtedness as investors may require a higher rate of return to compensate a perception of increased risk. In January 2018, Standard & Poor’s lowered Brazil’s credit rating to BB- with a stable outlook, which it confirmed in November 2021. In February 2018, Fitch downgraded Brazil’s credit rating to BB-, which it reaffirmed in December 2021 with a negative outlook. Moody’s rating is Ba2 with a stable outlook, which was reaffirmed in December 2021.
As a result of the downgrading, the trading price of securities of Brazilian issuers was adversely affected. An extension or worsening of the current Brazilian recession could lead to additional downgrading.
We cannot assure you that rating agencies will maintain Brazil’s sovereign credit ratings, and any further downgrading of Brazil’s sovereign credit ratings may adversely affect the perception of risk of investors and, as a result, increase of the future debt issuances cost and the trading price of our common shares and ADSs.
Brazil’s economy is vulnerable to external and internal shocks, which may have a material adverse effect on Brazil’s economic growth and on the trading markets for securities.
Brazil’s economy is vulnerable to external shocks, including adverse economic and financial developments in other countries. For example, an increase in interest rates in the international financial markets may adversely affect the trading markets for securities of Brazilian issuers. In addition, a drop in the price of commodities produced by Brazil could adversely affect the Brazilian economy. A decline in the economic growth or demand for imports of any of Brazil’s major trading partners could also have a negative impact on Brazil’s exports and adversely affect Brazil’s economic growth.
In addition, because international investors’ reactions to events occurring in one emerging market country sometimes produce a “contagion” effect, in which an entire region or class of investment is disfavored by international investors, Brazil could be adversely affected by negative economic or financial developments in other countries. Brazil has been adversely affected by such contagion effects on several occasions, including following the 1998 Russian crisis, the 2001 Argentine crisis and the 2008 global economic crisis. We cannot assure that any situations like those described above will not negatively affect investor confidence in emerging markets or the economies of Latin America, including Brazil.
In February 2022, the Russian president Vladimir Putin announced the beginning of a special military operation in the Donbas region in eastern Ukraine, which resulted in an armed conflict between these countries. Since then, other European countries and the United States have imposed packages of financial and economic sanctions that, in various ways constrain: (i) transactions with numerous Russian entities and individuals; (ii) transactions in Russian sovereign debt; and (iii) investment, trade, and financing to, from, or in certain regions of Ukraine. In addition, the military conflict between Russia and Ukraine has increased many commodity prices, such as the prices of energy and oil. While the invasion continues toward major Ukrainian cities, the United States, the European Union and the United Kingdom and other jurisdictions are likely to impose additional material, financial and economic, sanctions and export controls, including against the Russian energy sector, in which the country is an important global producer. Such actions and sanctions have impacted and may continue to impact adversely and materially the Russian economy and, consequently, the economies of other countries that maintain commercial relations with Russia (including Brazil). Additionally, it is not possible to predict whether additional sanctions against Russia will be applied and, if so, to what degree these sanctions will impact Brazil’s economy. Nor is it possible to predict the extent of Russian reaction to these sanctions. All this tension caused by the conflict in Ukraine has already triggered an inflationary process on commodities (mainly oil), which may significantly impact the business and the market price of the shares of companies all over the world, including us. Further, this conflict has caused substantial daily oscillations in the global capital markets (including in Brazil), which may have a material adverse effect on our business and financial performance, including through higher volatility in foreign currency exchange rates, higher inflation rates in Brazil, as well as increases in exchange rates.
Brazil’s economy is also subject to risks arising from the development of several domestic macroeconomic factors. These include general economic and business conditions of the country, the level of consumer demand, the general confidence in the political conditions in the country, present and future exchange rates, the level of domestic debt, inflation, interest rates, the ability of the Brazilian Government to generate budget surpluses and the level of foreign direct and portfolio investment.
Our operating conditions have been, and will continue to be, affected by the growth rate of GDP in Brazil, because of the correlation between GDP growth and water demand. Therefore, any change in the level of economic activity may adversely affect the liquidity of, and the market for, our securities and consequently our financial conditions and the results of our operations.
Risks Relating to Our Control by the State of São Paulo
We are controlled by the State of São Paulo, whose interests may differ from the interests of non-controlling shareholders, including holders of ADSs.
As the São Paulo state government owns the majority of our common shares, it is able to control the election of a majority of the members of our Board of Directors and appoint our senior management and with that determine our operating policies and strategy. As of December 31, 2021, the State owned 50.3% of our outstanding common shares. In addition, pursuant to the State Constitution of São Paulo, the Governor of São Paulo, the legal representative of our controlling shareholder, is the competent authority to make these decisions. Both through its control of our Board of Directors as well as by enacting State decrees, the State has in the past directed our company to engage in business activities and make expenditures that promoted political, economic or social goals, that did not necessarily enhance business, financial condition or results of operations. For example, the State issued Decree No. 64,879/2020 in March 2020 setting out emergency measures as a result of the coronavirus outbreak, including exempting customers under the “Residential Social” and “Residential Favela” categories from paying water and sewage bills for all Municipalities we serve. This exemption was extended until September 15, 2020. The São Paulo state government may direct our company to act in this manner again in the future, depending on the evolution of the pandemic in the State of São Paulo. These decisions by the State may not be in the interests of our non-controlling shareholders, including holders of ADs.
The State of São Paulo has the power to appoint up to 9 out of the 11 members of our Board of Directors and, through them, influence the choice of a majority of the executive officers responsible for our day-to-day management. Consequently, the State is empowered to approve most matters prescribed by law. We cannot guarantee that there will not be changes to our Board of Directors or Executive Officers and whether such changes may have a material adverse effect on our business, financial condition or results of operations, especially during new elections periods.
Our controlling shareholder is currently discussing proposals for our corporate reorganization. We cannot guarantee that any potential reorganization will not have a material adverse effect on our business, financial condition or results of operations.
On September 29, 2021, the State Privatization Program’s Board (Conselho Diretor do Programa Estadual de Desestatização - CDPED), which has authority over our corporate reorganization plan, in view of the New Sanitation Regulatory Framework (Federal Law No. 14,026/2020), as well as State Law No. 17,383/2021, which established the Regional Unit for Drinking Water Supply and Sewage Services for the State of São Paulo, unanimously resolved: (i) to recommend the hiring by the Treasury and Planning Secretariat (Secretaria da Fazenda e Planejamento do Estado de São Paulo), of the International Finance Corporation – IFC, to provide consulting services to the State, consisting in the identification and analysis of possible alternatives for restructuring our share capital; and (ii) at each relevant stage of the work to be carried out by the IFC, the matter should return to the CDPED for evaluation and continuation. As of the date of this annual report, a decision has not been made on the model for our potential corporate reorganization. Also, election for state governor will be held in 2022 which lead to further uncertainty about any future plans for our corporate reorganization. We cannot assure that CDPED will give us guidance on our potential corporate reorganization, the terms of such guidance, or that any potential reorganization will not have a material adverse effect on our business, financial condition or results of operation. See “—Regulatory Risks—Current regulatory uncertainty, especially with regard to the New Legal Framework for Basic Sanitation, may have an adverse effect on our business, financial condition or results of operations.”
We are owed some substantial unpaid debts. We cannot assure you as to when or whether we will be paid.
Historically, the State and some State entities have delayed payment of substantial amounts owed to us related to water and sewage services. As of December 31, 2021, the State owed us R$76.6 million for water and sewage services. Additionally, the State also owes us substantial amounts related to reimbursements of state-mandated special retirement and pension payments that we make to some of our former employees for which the State is required to reimburse us.
With respect to payment of pensions on behalf of the State, we had a contested credit amount of R$1,375.1 million as of December 31, 2021. We do not record this contested amount as a reimbursement credit for actuarial liability due to the uncertainty of payment by the State. We also had an uncontested credit amounting to R$741.9 million which is recorded as related-party receivables. See note 11(a) to our 2021 financial statements.
In addition, as of December 31, 2021, we had a provision for an actuarial liability in the amount of R$2,192.1 million with respect to future supplemental pension payments for which the State does not accept responsibility.
In addition, certain Municipalities and other government entities also owe us payments. See “—Risks Relating to Our Business— We may face difficulties in collecting overdue amounts owed to us by municipal government entities.” We cannot assure you when or if the State and such Municipalities will pay the contested credit amounts, which are still under discussion, and the remaining overdue amounts they owe us. The amounts owed to us by the State, Municipalities and other government entities for water and sewage services and reimbursements for pensions paid may increase in the future.
Our right to withdraw water from the Guarapiranga and Billings reservoirs is being challenged judicially by minority shareholders of EMAE.
We withdraw water for use in the São Paulo metropolitan region from the Guarapiranga and Billings reservoirs. Empresa Metropolitana de Águas e Energia S.A., or EMAE, a company that is also controlled by the State of São Paulo, has a concession to produce hydroelectric energy using water from the same reservoirs. EMAE commenced various lawsuits against us in the past seeking compensation for the water we withdraw from these reservoirs. Those lawsuits have now been settled by way of an agreement between EMAE and our company.
However, on April 11, 2016, we were also named in a separate lawsuit filed by minority shareholders of EMAE against the State of São Paulo, as controlling shareholder of EMAE. The minority shareholders are seeking an order to require the State to stop us from withdrawing water from the reservoirs without paying compensation to EMAE, and to allow EMAE to pump water from the reservoirs for its hydroelectric facility. The plaintiffs allege that the State, in its capacity as controlling shareholder of EMAE, has acted unduly to EMAE’s detriment and in favor of our company. This lawsuit was dismissed and is currently under appeal by the plaintiffs.
In addition, on August 7, 2017 we were named in a new lawsuit against us, EMAE and the National Electric Energy Agency (Agência Nacional de Energia Elétrica, or ANEEL), brought by Alvaro Luiz de Lima de Alvares Otero, another minority shareholder of EMAE, requesting the annulment of ANEEL’s order approving the settlement agreement mentioned above, as well as our condemnation for indemnifying EMAE for damages suffered by EMAE. The plaintiff alleges that the order is illegal and harmful, jeopardizing the operational viability of the Henry Borden hydroelectric power plant, as well as the energy security of the State of São Paulo, the Southeast region of Brazil and Brazil as a whole. The judge dismissed this lawsuit without judgment on the merits, but this decision is currently being appealed.
The settlement agreement between EMAE and us does not necessarily terminate the separate lawsuits.
If one of the ongoing lawsuits by minority shareholders of EMAE requires the State to make a different decision regarding water use from what was agreed between EMAE and the State of São Paulo, our ability to withdraw water from the Guarapiranga and Billings reservoirs may be compromised. If we were no longer able to withdraw water from these reservoirs, we would have to transport water from locations further away, which would increase our water transportation costs and may affect our ability to provide adequate service in the region, which may have an adverse effect on our financial condition and results of operations. In addition, we may be ordered to pay any indemnity to EMAE if the agreement is judicially invalidated, which could have material adverse effects on our financial condition and operating results. See “Item 7. Major Shareholders and Related Party Transactions.”
Risks Relating to Our Business
Our financial and operating performance may be adversely affected by epidemics, natural disasters and other catastrophes, such as the outbreak of COVID-19.
Our financial and operating performance may be adversely affected by pandemics such as COVID-19, as well as other catastrophes and health epidemics. The impact of the COVID-19 pandemic on the global economy and financial markets has been significant in 2020 and continued in 2021.
In late December 2019 the outbreak of a new contagious disease originated in Wuhan, Hubei province of China, was reported to the WHO. The SARS-CoV-2 strain of the coronavirus virus was identified, with cases and fatalities soon confirmed in multiple provinces in China, as well as in several other countries. On March 11, 2020, the WHO confirmed that its spread and severity had escalated to the point of a pandemic. Coronavirus cases have been diagnosed in virtually every country, including Brazil, and travels have been suspended or restricted by certain airlines and governments. Further, extended shutdowns of certain businesses and disruptions in financial markets have been reported globally.
In the second quarter of 2020 and partially in 2021, the São Paulo state government decreed a quarantine throughout the State, restricting business activities in order to avoid the accelerated spread of COVID-19. We experienced a direct impact on revenues as a consequence of the change in the consumption mix, due to the increase in volumes in the residential category and a reduction in the public, commercial and industrial categories which have higher tariffs, leading to a reduction in the total average tariff, in addition to increases in delinquencies, which continued through 2021. Accordingly, these changes in consumption patterns impacted the total volume of water billed and the average tariff, which had an impact on our revenues and results of operations.
In 2020, total volume in the retail category increased by 0.9%. If the categories are considered separately, the total volume of water billed in the residential category increased by 2.6%, whereas the commercial, industrial and public categories were strongly impacted by new consumption patterns, leading to a decrease in consumption of 9.5%, 6.1% and 18.8%, respectively. This pattern of consumption caused material effects on our results of operations and financial condition, particularly as the prices charged to customers in the residential category are lower than in the commercial, industrial and public categories. In 2020, our revenues from the residential sector were also affected as consumers in the “Residential Social” and “Residential Favela” categories were exempt from the payment of water and sewage bills for all Municipalities we serve from April 1, 2020, until September 15, 2020. Due to the approval of a state of public calamity mentioned above, the tariff readjustment published by ARSESP in April was postponed and the tariff readjustment of 3.4026%, which included a compensatory adjustment for the postponement of the annual tariff readjustment, was only applied on August 15, 2020.
Additionally, in the context of the COVID-19 pandemic, on February 3, 2021, our Board of Executive Officers approved certain measures for commercial clients aiming to help them maintain their businesses during the COVID-19 pandemic and to pay their debts in the future. These measures for commercial customers were in effect until August 2021. We cannot assure that other similar measures will not be adopted by our executive board or that these clients will be able to honor their debts after any grace period granted.
With COVID-19 vaccines becoming more broadly available, many employees have returned to on-site work. However, we cannot guarantee that future developments regarding the spread of COVID-19 or the emergence of new variants will not result in a return to remote working arrangements and the closure of non-essential commercial, industrial, as well as public, establishments. In addition, several companies announced that they would continue to employ partial remote working arrangements which could result in a new consumption pattern. This could affect our revenues since the tariffs charged to customers in the residential category are lower than in the commercial, industrial and public categories. In addition, we continued to experience increased delinquencies in 2021. In 2021, our allowance for doubtful accounts increased by R$198.9 million, which represents an increase of 44.7% compared to the same period of 2020. For more information, see Note 10(c) and 29 to our financial statements included in this annual report.
We provide a critical service to our customers which means that we must keep our employees who operate our businesses safe and minimize unnecessary risk of exposure to the virus. The extent to which COVID-19 will continue to impact our business, operations, and financial condition, will depend on future developments, which are uncertain and cannot be predicted. Accordingly, we currently cannot estimate the potential impact on our financial position, results of operations and cash flows. However, all these uncertainties and the factors mentioned above could have a material adverse effect on our results of operations and financial condition.
Droughts, such as the 2014 – 2015 water crisis, can cause a material impact on consumption habits and, consequently, on our business, financial condition or results of operations.
We experience decreases in our water supply from time to time due to droughts. The 2020-2021 rainy season, which ended in September 2021, recorded below-average rainfall compared to the expected long-term average. During this period, the Cantareira System received 70.4% of the expected rainfall, while the Alto Tietê System received 71.6% and the Guarapiranga System received 76.8%. Water inflow was also below average in the three main systems that supply the metropolitan region of São Paulo, with the Alto Tietê System (our second largest System) recording inflows close to its minimum historic levels between April and September. The 2019-2020 rainy season, which ended in September 2020, also had below-average rainfall compared to the expected long-term average. During this period, the Cantareira System received 74% of the expected rainfall, while the Alto Tietê System received 72% and the Guarapiranga System received 68%.
The 2021-2022 rainy season, which started in October 2021, recorded below-average rainfall compared to the expected long-term average. From October 2021 to March 2022, the Cantareira System received 84.5% of the historical average rainfall, while the Alto Tietê System received 75.5% and the Guarapiranga System received 85.2%. The total reservoir storage was 59.5% in March 2022, compared to 59.6% in 2021. Water inflow was also below average in some of the main systems that supply the metropolitan region of São Paulo, with the Cantareira System (our largest System) recording inflows of 68% of the historical average and Alto Tietê System recording inflows of 84% of the historical average in the first months of the 2021-2022 rainy season.
In 2014 and 2015 we experienced a severe drought in the metropolitan region of São Paulo, the most severe drought in the last 80 years to date, which was more intense in the northwest region of the State of São Paulo, resulting in the lowest level of rainfall and water inflow ever recorded in the Cantareira System, the largest water production system in the metropolitan region of São Paulo. This drought severely affected the level of water sources that supply the metropolitan region of São Paulo, forcing us to adopt a series of measures from 2014 to April 2016 to mitigate its impact and maintain the water supply for the then 20.9 million inhabitants at that moment served in the metropolitan region of São Paulo. See “Item 4.B. Business Overview—The 2014-2015 Water Crisis.”
With the return of the rainfall to its historical average, the volume of water available to the population of the São Paulo metropolitan region returned to a normal level. However, heightened public awareness of the need to conserve water during the crisis and other more recent droughts resulted in our customers continuing to adopt lower water consumption practices. As a result of this new behavior and ongoing awareness, the volume of water billed to our clients did not return to the volume of water billed before the water crisis in 2013. Accordingly, this change in consumption practice due to the 2014-2015 water crisis has had a continued effect on our results of operations since then.
There is a risk that there might be further period of drought similar or more severe to those of 2014-2015 and 2020-2021 in the future, forcing us to adopt similar or more severe measures as those adopted in 2014-2015, what can cause a material impact on consumption habits. These uncertainties could have a material adverse effect on our results of operations and financial condition.
Certain terms of our agreement to provide water and sewage services in the city of São Paulo could have a material adverse effect on us.
The provision of water and sewage services in the city of São Paulo accounted for 44.5% of our gross operating revenues from sanitation services (excluding revenues relating to the construction of concession infrastructure) in the year ended December 31, 2021.
On June 23, 2010, the State and the city of São Paulo executed an agreement in the form of a convention (“convênio”) with our intermediation and ARSESP’s consent, under which they agreed to manage the planning and investment for the basic sanitation system of the city of São Paulo on a joint basis. In accordance with the convênio, we executed a service contract on June 23, 2010, with the State and the city of São Paulo, to provide these services for the following 30 years. Among other principal terms of this service contract, we must transfer 7.5% of the gross revenues we obtain from this contract and subtract (i) COFINS and PASEP taxes, and (ii) unpaid bills for services provided to properties owned by the city of São Paulo, to the Municipal Fund for Environmental Sanitation and Infrastructure (Fundo Municipal de Saneamento Ambiental e Infraestrutura), established by Municipal Law No. 14,934/2009. See “Item 7.B. Related Party Transactions—Agreement with the State and the city of São Paulo” for a further discussion of the principal terms of the convênio and the principal terms of the service contract we executed in accordance with the convênio.
On May 9, 2018, ARSESP announced the result of the Second Ordinary Tariff Revision and since this revision cycle, ARSESP is passing-through to the tariffs up to 4% of the municipal revenue that is transferred by us to a legally established municipal infrastructure fund. Within the scope of the Second Ordinary Tariff Review, which was concluded in April 2021, our only contract that provides for this and complies with ARSESP’s requirements is with the municipality of São Paulo. Accordingly, 4% of the funds transferred to the São Paulo Municipal Fund for Environmental Sanitation and Infrastructure were transferred to tariffs for the revision cycle ending in April 2021. See “Item 4.B. Business Overview—Tariffs,” especially “Item 4.B. Business Overview—Tariffs—Tariff Readjustment and Revisions.”
Prior to May 9, 2018, our tariff had never included any pass-through to tariffs related to the transfer of 7.5% of the gross revenues obtained from providing sanitation services in the municipality of São Paulo to the São Paulo Municipal Fund for Environmental Sanitation and Infrastructure.
The transfer of 4% was subsequently regulated by ARSESP Resolution No. 870/2019 of May 2019, which established the criteria and conditions to permit the transfer of 4% of the revenue from service providers through the tariff, excluding COFINS and PASEP taxes, and unpaid bills in respect of publicly owned properties. In addition, for recognition as part of the tariff, municipal funds for environmental sanitation and infrastructure must be established by the municipality through a legal act, which specifies the allocation of resources. As established by ARSESP, if the concessionaire and the municipality decide to transfer amounts greater than 4% of the revenue, the excess will not be recognized as a financial component of tariffs and will be restricted to the municipality.
Considering that ARSESP has limited the pass-through to tariff of values transferred to municipal infrastructure funds to 4%, the mandatory contractual transfer of the remaining 3.5% of the gross revenues, subtracting (i) COFINS and PASEP taxes and (ii) unpaid bills of publicly owned properties in the city of São Paulo, to the Municipal Fund for Environmental Sanitation and Infrastructure will not be passed through to customers in full and we cannot assure you when and if this will happen and may have an adverse effect on our business, financial condition or results of operations.
From 2010 to December 31, 2021, we transferred approximately R$4.6 billion to the São Paulo Municipal Fund for Environmental Sanitation and Infrastructure. For additional information on ARSESP regulations, see “Item 4.B. Business Overview—Tariffs” and “Item 4.B. Business Overview— Government Regulations Applicable to Our Contracts—Rules Enacted by ARSESP.”
The technical note approved by ARSESP on July 30, 2020 which established the methodology to be used for the calculation of the maximum tariff, also establishes that for the third tariff cycle (2021-2024) a 4% limit will be applied to transfers to municipal funds, with transfers made to funds previously approved by ARSESP or those provided for in Article 15 of ARSESP Resolution No. 870/2019 being recognized as part of the tariffs. If the concessionaire and the municipality decide to transfer amounts greater than 4% of revenue, the excess will not be recognized as a financial component of the tariffs and will be restricted to the municipality.
On July 13, 2021, the Municipality of São Paulo filed a public civil action against us, the State of São Paulo and ARSESP aiming, in general terms, to discuss the possibility of including the charge to FMSAI in the tariff adjustment provided for in Resolution No. 870/2019, which in practice was already being transferred since Deliberation No. 794/2018, with a view to, in summary: (i) the recognition of illegality of the transfer of the charge of 7.5% of our gross revenue, related to FMSAI, the water and sewage tariff practiced in the City of São Paulo; (ii) establishing our liability for damages caused to users affected by ARSESP Resolutions 794/2018 and 870/2019; and (iii) the recognition of the inexistence of liabilities to be paid to us for the transfers to FMSAI made by it since 2010, since they would already be included in the tariff value from the beginning.
On August 19, 2021, the Municipality requested the suspension of the process in view of the ongoing negotiations in search of an amicable solution to the dispute. On September 13, 2021, the suspension of the case for a period of ninety days was granted. We have not yet been named and cannot predict the outcome of this proceeding, which, if unfavorable, could have an adverse economic impact on us.
Our current tariff structure is outdated and does not reflect the current socioeconomic changes the State of São Paulo has undergone over the past decades. The approved update to the structure and its implementation may lead to uncertainties in the market as well as unpredictability about our future revenues.
Our current Tariff Structure (as defined in “Item 4.B. Business Overview—Tariffs—Tariff Structure”) is based on the pricing regulation approved by State Decree No. 41,446/1996 and has been in force since the 1970s. Accordingly, it no longer reflects the socioeconomic changes the State of São Paulo has undergone over the past decades. Considering the need to adapt to new circumstances, ARSESP accepted our request to update our Tariff Structure to reflect the new consumption profile of our customers. This process was developed in parallel with the Third Ordinary Tariff Revision, both of which were completed on April 8, 2021.
Our current Tariff Structure applies different pricing ranges for the following categories of users: (i) residential customers (Residential Normal, Residential Social and Residential Favela) and non-residential customers (including commercial, industrial and public customers, as described in “Item 4.B. Business Overview— Tariffs - Tariff Structure”); (ii) the metropolitan regions of São Paulo and the regional system; (iii) water and sewage, with no difference in prices for sewage collection and treatment; and (iv) the charge of a minimum consumption of 10 m³/month and differences in prices per range, with progressive increases in the price as consumption increases. In 2021, 2020 and 2019, the average price calculated for the regional systems was approximately 20% below the average price of the São Paulo metropolitan region. See “Item 4.B. Business Overview—Tariffs –Tariff Structure.”
The New Tariff Structure (as defined in “Item 4.B. Business Overview—Tariffs—New Tariff Structure”) introduces: (i) new classifications for residential customers (Residential, Residential Social, Residential Vulnerable and Residential Collective) and non-residential customers (Commercial, Commercial Assistance, Commercial Collective, Industrial and Public Wholesale, Water Truck, Sewage Cleaning Truck); (ii) different prices for water, sewage collection and treatment sewage services; (iii) the unification of our pricing schedules, which partially reduces subsidies between the regions; and (iv) the charging of a fixed component that reflects fixed costs per connection and another variable part that reflects consumption (a binomial price). The New Tariff Structure was expected to be adopted as of 2022. However, on March 17, 2022, ARSESP published Resolution No. 1,278 relating to the tariff readjustment, which also postponed the application of the New Tariff Structure to an undetermined date.
The transition period during which the New Tariff Structure will be implemented may lead to uncertainties as well as unpredictability about the revenues we expect to earn with the new structure, given that it is difficult to determine the customer reclassification as a result of price changes, which can lead to differences in our revenues compared to those projected based on the current Tariff Structure. We cannot assure what the result of the implementation of the New Tariff Structure will be and if it will have an adverse effect on our business, financial condition or results of operations. see “Item 4.B. Business Overview—Tariffs—New Tariff Structure.”
Any failure to obtain new financing may adversely affect our ability to continue our capital expenditure program.
Our capital expenditure program will require resources of approximately R$23.8 billion in the period from 2022 through 2026. In 2021, we recorded R$5 billion in capital expenditures. We funded and intend to continue funding these capital expenditures with cash generated by our operations, issuances of debt securities in the domestic and international capital markets as well as borrowings in Brazilian reais and foreign currencies. A significant portion of our financing needs is obtained through long-term financing at attractive interest rates from Brazilian federal public banks, multilateral agencies and international governmental development banks. If the Brazilian government changes its policies regarding public financing or amounts available for water and sewage services, or if we fail to obtain long-term financing at attractive interest rates from domestic and international multilateral agencies and development banks in the future, we may not be able to meet our obligations or finance our capital expenditure program, which could have a material adverse effect on our business, financial condition or results of operations.
Furthermore, Brazilian public and private financial institutions are legally limited up to a certain percentage of their shareholder’s equity to provide loans to public sector entities, including, for example, us. These limitations could adversely affect our ability to continue our capital expenditure program and, consequently, may adversely affect our business, financial condition or results of operations.
Our debt includes financial covenants that impose indebtedness limits on us. Our failure to comply with these covenants could seriously impair our ability to finance our capital expenditure program, which could have a material adverse effect on us. For further information on these covenants, see “Item 5.B. Liquidity and Capital Resources—Indebtedness Financing—Financial Covenants.”
Extreme Weather Conditions and Climate Change may have a material adverse impact on our business, financial condition or results of operations.
Our business may be affected by droughts, and by other extreme weather conditions, such as torrential rain and other changes in climate patterns. A possible increase in the severity of extreme weather conditions in the future may adversely affect the water available for abstraction, treatment, and supply, whether from the standpoint of quality or quantity. Droughts could adversely affect the water supply systems, resulting in a decrease in the volume of water distributed and billed as well as in the revenue derived from water supply services. For further information, see “3 Item 3.D. Risk Factors— Risks Relating to Our Business—Droughts, such as the 2014 – 2015 water crisis, can cause a material impact on consumption habits and, consequently, on our business, financial condition or results of operations.” Extreme climate conditions may compromise our facilities’ conditions to operate and supply of inputs. Additionally, increases in air temperature could affect demand for water.
Since we are dependent upon energy supplies to conduct our business, extreme weather events may also reduce water levels in the reservoirs that power hydroelectric power plants in Brazil, which may cause energy shortages, which could affect water and sewage services. Increased electricity prices may also adversely affect our costs and operations. For further information, see “Item 3.D. Risk Factors—Risks relating to Our Business—Adverse weather conditions may interrupt the supply of electricity and water and adversely impact our operations” and “Item 4.B. Business Overview—Energy Consumption.”
We cannot predict all of the effects of extreme weather events, therefore making it difficult to estimate the resources needed to address these mitigations. It is possible that as a result of these difficulties to predict events, we may be required to make substantial investments or incur substantial costs in their remediation, which may have a material adverse impact on our business, financial condition or results of operations. We also cannot guarantee that we will be able to pass on any of these additional costs and expenditures to our customers.
New laws and regulations relating to climate change and changes in existing regulation may result in increased liabilities and increased capital expenditures, which could have a material adverse effect on us.
We are currently subject to federal and state laws, as well as international regulations on climate change, that establish global goals to reduce greenhouse gas emission, which we endeavor to comply with. Among these laws, we highlight Decree No. 65,881 of July 20, 2021, which provides for the State of São Paulo’s adhesion to the “Race to Zero” and “Race to Resilience” campaigns, which aims, among other issues, to reduce greenhouse gas emissions and to foster climate resilience.
With Brazil’s current adherence to international agreements, as well as the clear guidelines of the State government on reducing emissions, in addition to the establishment of new legislation, it is possible that we may have to invest in further actions to reduce and mitigate emissions. We may be required to adopt new standards to improve our energy use efficiency and minimize the release of greenhouse gases for the systems already in operation or when we obtain environmental licenses for new enterprises. We may also need to incur substantial new expenditures, to comply with new climate change regulations, that may require us, for example, (i) to adequate and improve our operations to achieve more sustainable processes and to reduce the emission of Greenhouse Gases ("GHG"); or (ii) to implement new facilities and equipment for biogas utilization and its subproducts, considering the dispersion and diversity of processes in our operational facilities. Further, we may also incur in new expenditures to prevent or correct the physical effects of extreme weather events. New expenditures resulting from new climate change regulations and from the prevention or correction of effects of extreme weather could have a material adverse effect on our results of operations. For more information, see “Item 4.B. Business Overview—Environmental Matters—Climate Change Regulations: Reduction of Greenhouse Gases (GHG) Emissions” and “Item 4.B. Business Overview—Energy Consumption.”
Compliance with environmental laws and environmental liability could have a material adverse effect on us.
We are subject to extensive Brazilian federal, state and municipal laws and regulations relating to the protection of human health and the environment. These laws and regulations set, among others, environmental licensing requirements and potable water standards, as well as standards for effluents which limit or prohibit the discharge of untreated sewage received in our operations. Also, we may experience accidents such as leaks or broken pipes that can lead to liability for environmental damages.
We are party to environmental proceedings and could be subject to other types of criminal, administrative and civil proceedings for non-compliance with environmental laws and regulations, including licensing requirements, that could expose us to administrative penalties and criminal sanctions, such as fines, closure orders and significant indemnification obligations. These expenses may lead us to reduce expenditure on strategic investments, which may adversely affect our business, financial condition or results of operations.
We are party to environmental proceedings that could have a material adverse impact on us, including civil processes and investigations relating, among others, to the release of untreated sewage into waterways or the disposal of sludge generated by treatment plants. We are also involved in proceedings challenging the water withdrawing during the 2014-2015 water crisis. Any unfavorable judgment in relation to these proceedings, or any material environmental liabilities, may have a material adverse effect on our business, financial conditions or results of operations. For further information on these proceedings, see “Item 8.A. Financial Statements and Other Financial Information—Legal Proceedings.” For further information on investments in environmental programs, see “Item 4.A. History and Development of the Company—Main Projects of our Capital Expenditure Program,” “Item 4.B. Business Overview—Description of our Activities—Sewage Operations—Sewage Treatment and Disposal,” “Item 4.B Business Overview—Environmental Matters” and “Item 4.B. Business Overview— Environmental Matters—Environmental Regulation.” For further information on the Water Crisis, see “Item 4.B. Business Overview—The 2014-2015 Water Crisis.”
Any substantial monetary judgment against us in legal proceedings may have a material adverse effect on us.
We are currently a party to numerous legal proceedings relating to civil, corporate, environmental, labor and tax claims filed against us. These claims involve substantial amounts of money and other remedies. We have established provisions for all amounts in dispute that represent a present obligation as a result of a past event and is probable there will be outflow to settle the referred obligation in the view of our legal advisors and due to disputes that are covered by laws, administrative decrees, decrees or court rulings that have proven to be unfavorable. As of December 31, 2021, the estimated total claims asserted amounted to R$54,071.6 million (net of R$173.7 million in escrow deposits), including contingent liabilities. We have recognized provisions totaling R$1,448.5 million (net of escrow deposits) as of December 31, 2021. These provisions do not cover all legal proceedings involving monetary claims filed against us and it may be insufficient to cover the ultimate resolution of these claims. Any unfavorable judgment in relation to these proceedings may have a material adverse effect on our financial condition. For more information, see “Item 8.A. Financial Statements and Other Financial Information—Legal Proceedings” and Note 20 to our 2021 Financial Statements included in this annual report.
We are subject to anti-corruption, anti-bribery, anti-money laundering, sanctions and antitrust laws and regulations. Our violation of any such laws or regulations could have a material adverse effect on our reputation, our results of operations and our financial condition.
We are subject to anti-corruption, anti-bribery, anti-money laundering, sanctions, antitrust and other similar laws and regulations. We are required to comply with the applicable laws and regulations of Brazil, and we may become subject to such laws and regulations in other jurisdictions. There can be no assurance that our internal policies and procedures will be sufficient to prevent or detect any inappropriate practices, fraud or violations of these laws or regulations by our employees, officers, executives, partners, agents and service providers, nor that any such persons will not take actions in violation of our policies and procedures. Any violations, whether actual or perceived, by us or any of our employees, directors, officers, partners, agents and service providers of these laws or regulations or our internal policies or procedures could have a material adverse effect on our reputation, our ability to obtain financing our business, financial condition or results of operations.
Our business is subject to cyberattacks and security and privacy breaches.
Our business involves the collection, storage, processing and transmission of customers’, suppliers and employees’ personal or sensitive data. We also use key information technology systems for controlling water, sewage and commercial, administrative and financial operations. We may be subject to breaches of the information technology systems we use for these purposes. Experienced computer programmers and hackers may be able to penetrate our network security and misappropriate or compromise our confidential information or that of third parties, create system disruptions, or cause shutdowns. Computer programmers and hackers also may be able to develop and deploy viruses, worms and other malicious software programs that attack our products or otherwise exploit any security vulnerabilities of our products. In addition, sophisticated hardware and operating system software and applications that we produce or procure from third parties may contain defects in design or manufacture, including “bugs” and other problems that could unexpectedly interfere with the operation of the system. Due to the COVID-19 outbreak, we started to use new communication software and systems. However, we currently cannot assure that these systems adequately protect data and information to avoid confidentiality breaches or will not affect our capacity to operate.
The techniques used to obtain unauthorized, improper or illegal access to our systems, our data or our customers’ data, to disable or degrade service, or to sabotage systems are constantly evolving, may be difficult to detect quickly, and often are not recognized until launched against a target. Unauthorized parties may attempt to gain access to our systems or facilities through various means, including, among others, hacking into our systems or those of our customers, partners or vendors, or attempting to fraudulently induce our employees, customers, partners, vendors or other users of our systems into disclosing usernames, passwords or other sensitive information, which may in turn be used to access our information technology systems. Certain efforts may be supported by significant financial and technological resources, making them even more sophisticated and difficult to detect.
Our information technology and infrastructure may be vulnerable to cyberattacks or security breaches, and third parties may be able to access our customers’, suppliers’ and employees’ personal or proprietary information that are stored on or accessible through those systems. Our security measures may also be breached due to human error, malfeasance, system errors or vulnerabilities, or other irregularities. Any actual or perceived breach of our security could interrupt our operations, result in our systems or services being unavailable, result in improper disclosure of data, materially harm our reputation and brand, result in significant legal and financial exposure, lead to loss of customer confidence in our products and services, and adversely our business, financial condition or results of operations. In addition, any breaches of network or data security at our suppliers (including data center and cloud computing providers) could have similar negative effects. Actual or perceived vulnerabilities or data breaches may lead to claims against us. We cannot guarantee that the protections we have in place to protect our operating technology and information technology systems are sufficient to protect against cyberattacks and security and privacy breaches.
Failure by us to comply with the LGPD or any further privacy laws enacted in Brazil could adversely affect our reputation, business, financial condition or results of operations.
We are subject to data privacy laws, such as Law No. 12,965/2014 (the “Brazilian Internet Act”) and the Brazilian General Law for Personal Data Protection - LGPD (Law No. 13,709/2018) and their related regulations, including regulations to be enacted by the Brazilian National Data Protection Authority (ANPD).
The LGPD came into effect on September 18, 2020 and provides a comprehensive regulation for the use of personal data in Brazil. The legislation provides for the application of administrative sanctions (art. 52, 53 and 54), which came into effect on August 1, 2021. If we do not carry out the data processing operation in accordance with the LGPD, we may be subject to sanctions, individually or cumulatively, of warning, obligation to disclose the incident, temporary blocking and/or deletion of personal data, suspension, prohibition, partial or total, of the exercise of the activity of processing personal data and fine of up to 2% (two percent) of the company, group or conglomerate’s revenue in Brazil in its last fiscal year, excluding taxes, up to the global amount of R$50,000,000 (fifty million reais) per infringement. The application of the sanctions provided for in the LGPD is exclusively the responsibility of the National Data Protection Authority – ANPD.
We may also be held liable for material, moral, individual or collective damage caused by non-compliance with the obligations established by the LGPD and other data protection legislation, being subject to risks, such as (i) the filing of lawsuits claiming damages resulting from violations, based not only on LGPD, but also on sectorial legislation that are still in force; and (ii) the application of penalties provided for in the Consumer Defense Code and the Brazilian Internet Act by relevant consumer protection agencies, such as the Federal District Prosecutor’s Office and the National Consumer Secretariat (Secretaria Nacional do Consumidor), since before the validity of the LGPD and the complete structuring of the ANPD, especially in cases of security incidents that result in improper access to personal data.
The LGPD significantly transformed the data protection system in Brazil and it was inspired on European legislation (the General Data Protection Regulation – “GDPR”).
The LGPD establishes detailed rules for the collection, use, processing, storage and disposal of personal data. It affects all economic sectors, including the relationship between customers and financial institutions, employees and employers and other relationships in which personal data is processed, both in the digital and physical environment. The ANPD is the agency with overall responsibility to: (i) ensure the protection of personal data, in accordance with the law; (ii) deliberate, at an administrative level, on a terminative character, upon the interpretation of the LGPD; (iii) supervise the compliance with, and apply penalties in the event of data processing performed in violation of, LGPD; (iv) implement simplified mechanisms for recording complaints about the processing of personal data in violation of the LGPD; and (v) inform the competent authorities the criminal offenses of which it becomes aware.
Any failure by us to adhere to the LGPD or any further privacy laws or regulations enacted or approved in Brazil also carries the risk of individual or collective lawsuits, claim of compensation for damages arising from violations, especially in cases of security incidents that result in unauthorized access to personal data. The application of penalties, the publicizing of the infraction or the imposition of obligations to indemnify for failures in the protection of personal data and inadequacy of the LGPD could adversely affect our reputation, and our results and, consequently, the value of our shares.
Industrial accidents, equipment failure, environmental hazards or other natural phenomena may adversely affect our operations, assets and reputation and might not be covered by our insurance policies.
Currently, we substantially withdraw our water supply from surface sources from rivers and reservoirs, with a small portion being withdrawn from groundwater. Our reservoirs are filled by impounding water from rivers and streams, by diverting the flow from nearby rivers, or by a combination of both methods. We have 229 dams for water supply purposes, which is the total amount of dams used by us. Our operations may be hampered by numerous factors, including unexpected or unusual geological and/or geotechnical operating conditions, industrial accidents, floods or droughts or other environmental occurrences that could result in structural damages and eventually rupture our reservoirs, dams and other facilities or equipment.
Our water and sewage pipes are susceptible to degradation caused by factors such as aging, intense traffic, interventions resulting from disorderly urban planning and action by other companies, which may provoke accidents in the networks, increasing the risk of physical loss of water and affect the regular provision of our services, impacting our customers and the environment. Regarding sanitary sewage, our sewage pipes may be obstructed due to misuse resulting from the improper release of solid waste and rainwater in the sewage systems.
In particular, the increasing degradation of watershed areas (Mananciais) may affect the quantity and quality of water available to meet demand from our customers. See “Item 4.B. Business Overview—Description of Our Activities—Water Operations—Water Distribution” and “Item 4.B. Business Overview—Description of Our Activities—Sewage Operations—Sewage System.”
The occurrence of any of these events could lead to personal injury or death, adverse social impacts on the communities located near our facilities, monetary losses and possible legal liability arising from environmental and social damages, other environmental and social damages, the loss of prime materials and damage to our reputation. See “Item 4.B. Business Overview—Water Operations—Water Resources.”
It is not always possible to obtain insurance against all such risks due to the high premiums associated with insuring against them or for other reasons. Moreover, insurance against risks such as water contamination or other problems involving our water supply to customers and for environmental related liabilities and damages as a result of our activities is not generally available to us or to other companies in our industry on acceptable terms. Our insurance will not cover all potential risks associated with our operations and insurance coverage may not continue to be available or may not be adequate to cover any resulting liability. Losses from these events may cause us to incur significant costs that could have a material adverse effect on our financial performance and results of operations. To the extent that we incur losses not covered by our insurance policies, the funds available for sustaining our current operations and for our expansion activities will be reduced. See also “—Risks Relating to Our Business— Compliance with environmental laws and environmental liability could have a material adverse effect on us” and “Item 4.B. Business Overview—Insurance.”
Adverse weather conditions may interrupt the supply of electricity and water and adversely impact our operations.
Electricity and the price we pay for it has a significant impact on our operating results. Any material interruptions in the supply of energy could have a considerable negative effect on our activities, our financial situation, our operating results and prospects.
The Brazilian power generation system is based on hydro, thermal, wind and solar energy, with the majority of energy being produced by hydroelectric powerplants. In 2021, Brazil experienced a critical hydrological year with below-average rainfall compared to the expected long-term average, which increased the electricity price and caused a material impact on our operating results. The situation requires constant monitoring and the Federal Government will keep monitoring the system in 2022 and controlling the demand through tariff flags, which are a surcharge levied on electricity consumption in the Regulated Contracting Environment and in the Free Contracting Environment, raising the System Service Charge. Any resulting increases in the price of energy could have a material impact on our business, financial condition or results of operations. Also, shortages of electric energy could lead to instability in water supply and sewage collection and treatment services, which could damage our reputation and operations. In addition, as we are one of the largest consumers of electricity in the State of São Paulo, a potential increase in electricity tariffs due to a shortage of hydroelectric power could have a significant financial impact on us.
Finally, adverse weather conditions and continuous droughts may impact our distribution of water and prevent us from providing water to our customers and perform our obligations in accordance with the terms of our concession agreements. For more information, see “Item 4.B. Business Overview—Energy Consumption.”
We may face difficulties in collecting overdue amounts owed to us by municipal government entities.
As of December 31, 2021, our total trade receivables were R$4,198.4 million. Of this amount, the Municipalities of Mogi das Cruzes and São Caetano do Sul, for which we provide water on a wholesale basis, owed us R$28.0 million, and certain municipal government entities owed us R$865.7 million. Of the total amount owed by Municipalities, R$20.4 million was overdue by between 30 and 360 days and none was overdue by over 360 days.
Certain entities associated with municipal governments for which we provide services also do not make regular payments. We cannot guarantee if or when these entities will make payments on a regular basis or pay the amounts they owe us. If these Municipalities and related entities do not pay the amounts they owe us, our business, financial condition or results of operations may be adversely affected.
The complexity of the process of demonstrating our economic and financial capacity established under the terms of Federal Decree No. 10,710/2021 and Federal Decree No. 10,588/2020, as amended by Federal Decree No. 11,030/2022, may have an adverse effect on our business, financial conditions or operating results.
Law No. 11,445/2007, as amended by Law No. 14,026/2020, provided in article 11-B§1 that contracts in force that did not have the new universalization targets that guarantee the service of 99% of the population with drinking water and 90% of the population with sewage collection and treatment by December 2033 had to include these targets until March 31, 2022.
Further, according to article 10-B, service operators must comply with financial and economic parameters that will measure their ability to provide sanitation services and meet the service standards established by law in a timely manner.
On June 1, 2021, Federal Decree No. 10,710/2021 was enacted, establishing the methodology for demonstrating the economic and financial capacity of public service providers for drinking water supply or sanitary sewage. Article 10 of this decree stipulates that an application for proof of economic-financial capacity must be submitted to the regulatory entity responsible for inspecting the contracts by December 31, 2021. We submitted the request related to this requirement to ARSESP. The regulator has now recognized our economic and financial capacity for the 370 Municipalities that are part of URAE1-Southeast, with documentary reservations for six Municipalities that, until the date of delivery of the documentation to ARSESP, had not agreed to the amendments to their contracts. Until March 31, 2022, we executed 240 amendments to the contracts with the Municipalities under our operations, with the aim to incorporate or adapt the universalization of the goals required by Section 11-B of Federal Law No. 11,445/2007, amended by Federal Law No. 14,026/2020. The Municipalities that have not yet formalized the respective amendments represent approximately 1.4% of our total annual revenue. On April 1, 2022, Federal Decree No. 11,030/2022 was enacted, amending the provisions of Federal Decree No. 10,588/2020, which, in turn, provided for the regularization of operations and technical and financial support from the Brazilian Government and the respective allocation of federal resources in the sanitation sector. We cannot assure that the entirety of our contracts will be deemed “regular” by the regulator or by the Municipalities.
The adequacy of our contracts that were amended will depend on the analysis by the federal regulator (ANA), according to Federal Decree No. 10,588/2020. Accordingly, as of the date of this annual report, we cannot measure the effects of Federal Decree No. 10,710/2021 and are currently not in position to assess whether its implementation will have an adverse effect on our business, financial condition, or results of operations.
According to the New Legal Framework for Basic Sanitation, ANA will be responsible for issuing reference norms whose non-compliance by Municipalities or sanitation operators will prevent them from accessing financing and sources of funds managed or operated by the Federal Government.
Considering that the rules established by ANA may conflict with the rules in force of subnational regulatory agencies, including ARSESP, we cannot guarantee that we will have full access to financings and resources managed or operated by the Federal Government. The lack of this access may have an adverse effect on our business, financial condition or results of operations.
The New Legal Framework for Basic Sanitation prohibits program contracts for basic sanitation services, resulting in uncertainties for our current and future concessions.
Law No. 11,445/2007, which establishes national guidelines for basic sanitation, was amended by Law No. 14,026/2020, which became known as the New Legal Framework for Basic Sanitation and brought about several changes that directly affect our operations.
As provided, the provision of public basic sanitation services by any party other than municipal and state’s public administration can no longer be formalized through program contracts, agreements, partnership agreements and other unstable instruments for the provision of public basic sanitation services were prohibited. As such, except in the Municipalities where the State shares ownership with the Municipalities, any current expired contract we hold with Municipalities can only be renewed through a bidding process under Law No. 8,666/1993, as amended.
Previously, we provided services in several Municipalities through contracts which did not require bidding procedures. The current program contracts and contracts that comply with Law No. 11,445/2007 will remain in effect until the end of their contractual term, provided that the contracts set targets for the universalization of services until December 31, 2033, and those who have not set such targets had to establish them until March 31, 2022. Pursuant to current legislation, except in the Municipalities where the State shares ownership with the Municipalities the renewal of these contracts, once they expire, will require a bidding process, and therefore we cannot guarantee that we will be able to maintain our current customer base and size of operations. Prior to the implementation of the New Legal Framework on Basic Sanitation, our market expansion could be undertaken through program contracts that did not require a bidding process. Under the New Legal Framework on Basic Sanitation, this important mechanism for expanding operations in the state of São Paulo is no longer available to us, which may increase uncertainty with respect to our plans for expansion of our market share.
Any sale of our shares to the private sector which removes the State as our majority shareholder brings uncertainties regarding the maintenance of current program contracts.
The New Legal Framework for Basic Sanitation establishes that, in the event of the sale of the State’s share control to the private sector, the current program contracts may be replaced with new concession contracts, subject to the State Privatization Program, where applicable. The framework also establishes that if there is a change in the clauses of these program contracts, such proposals must be presented to the public entities holding the service, who must, within 180 days, manifest their opinion if in disagreement, after which the proposal will be considered as approved. However, prior approval by the public entities that executed the contract related to the program is only required if the majority shareholder requests an amendment to the term, purpose or certain other sections of the contract at the time of the change of control. Regardless of that, most of our contracts have a termination clause in the event of a change in our control. We cannot assure you that all the public entities holding the service will agree to any proposed amendments to the contracts and that the result of those negotiations would not have a material impact on our revenues or operations.
Municipalities may terminate our concessions before they expire in certain circumstances. The indemnification payments we receive in such cases may be less than the value of the investments we made, or may be paid over an extended period, adversely affecting our business, financial condition or results of operations.
Municipalities have a right to terminate our concessions early if we fail to comply with our contractual or legal obligations or if the Municipalities determine to do so in a takeover proceeding (retomada de serviços). The resumption of services must be justified by public interest. In these circumstances, the Municipalities have to determine that it is no longer in the public interest to continue to provide water and sewage services under the terms and conditions of the current concession. Under Federal Decree No. 10,588/2020, as amended by Federal Decree No. 11,030/2022, the Municipalities, and regulator are responsible for identifying potential contractual irregularities and adopting the required actions. Accordingly, we cannot assure all our contracts are complying with the new rules and will be not terminated by the Municipalities. The Basic Sanitation Law provides that on the early termination of a concession a valuation of the assets that relate to the services provided must be carried out in order to calculate the unamortized portion of investments for purposes of assessing any related indemnification payments due to the service provider. The resulting indemnification payment may be less than the remaining value of the investments the sanitation service provider made. Alternatively, there may be an extension of the maturity dates for the payments. The Municipalities may also refuse to make indemnification payments voluntarily, potentially leading to judicial disputes. In the case of a judicial dispute, there is a risk that the judicial decision will consider the indemnification as undue or set it at a lower value than the investments already made.
The New Legal Framework for Basic Sanitation assigns to ANA the authority to introduce reference norms on the methodology for calculating indemnities due to investments made and not yet amortized or depreciated.
On August 31, 2021, ANA published the opening of Subsidy Taking No. 01/2021, intended to collect contributions from society for the preparation of the reference norms for the methodology of calculating asset indemnities for the water and sewage segments.
Based on contributions received from society and other studies, ANA will prepare the Regulatory Impact Analysis Report (RIA) related to this reference norms for a second stage of social participation, which will include a public consultation. Future concession contracts will have their indemnification methodology defined together with the other contractual rules provided for in ANA’s reference norms. We do not know the effects that the asset indemnity calculation methodology will have on our business.
The New Legal Framework provides that the transfer of services from one provider to another will be conditioned, in each case, on the indemnity of investments linked to reversible assets not yet amortized or depreciated, under the terms of Law No. 8,987/1995. In these cases, the holder of the services may assign payment to the provider who will assume the service. It is not possible to guarantee that future bids will take into account previous resolution of this issue before the bidding processes.
Additionally, we are party to proceedings related to indemnification issues regarding the resumption of water supply and sewage collection services by certain Municipalities. For more information, see Note 20 to our 2021 financial statements included in this annual report. Other Municipalities may seek to terminate their concession agreements before the contractual expiration date. If this occurs and we do not receive adequate indemnification for our investments, or the indemnification is paid over an extended period, our business, financial condition or results of operations may be adversely affected.
Current regulatory uncertainty, especially with regard to the New Legal Framework for Basic Sanitation, may have an adverse effect on our business, financial condition or results of operations.
The New Legal Framework for Basic Sanitation defers certain regulations and definitions to a later date, which could have a significant impact on our operations. Moreover, ANA was assigned with the authority to edit reference norms to serve as guidelines to be observed by other regulatory agencies, pursuant to Article 23, of the Law No. 11,445/2007, thereby potentially reducing their autonomy. If these national guidelines are not followed, certain consequences may apply to the operators, such as blocking access to funding or financings provided or managed by the Federal Government or federal entities.
Among the supervening definitions, the regionalized provision of sanitation services stands out as one of the requirements of the new legislation that allows providers to have access to the technical and financial resources of the federal government.
This model of providing regionalized sanitation provides for the establishment of regional sanitation units by state governments within one year of enactment of the law. In the state of São Paulo, State Law No. 17,383 was enacted on July 5, 2021, creating four URAEs. The Municipalities operated by us coincide with URAE 1 – Southeast. On December 2, 2021, State Decree No. 66,289 was issued, which deals with the adhesion of Municipalities to the URAEs. We cannot assure voluntary adhesion by all Municipalities that are part of URAE1 – Southeast and their effect on our operations.
On January 4, 2022, ANA initiated Public Consultation No. 01/2022 regarding the proposal for a reference standard on indicators and standards of quality, efficiency and effectiveness for evaluating the provision, maintenance and operation of water supply and sewage systems. The outcome of this public consultation is still uncertain, as well as any new ANA reference standards that may be edited and we cannot guarantee that our operations will not be materially affected. For more information on ARSESP regulations and these pending measures, see “Item 4.B. Business Overview—Government Regulations Applicable to Our Contracts—The Basic Sanitation Law and the New Legal Framework for Basic Sanitation.”
Risks Relating to Our Common Shares and ADSs
We may not always be in a position to pay dividends or interest on shareholders’ equity and ADSs.
Depending on our future results, our shareholders may not receive dividends or interest on own capital if we do not generate a profit. Despite the requirement to distribute a minimum of 25% of the adjusted annual net income to shareholders in accordance with Brazilian Corporate Law, our future financial position may not permit us to distribute dividends or pay interest on own capital.
The relative volatility and illiquidity of the Brazilian securities markets may substantially limit your ability to sell our common shares underlying the ADSs at the price and time you desire.
Investing in securities from emerging markets such as Brazil involves greater risk than investing in securities of issuers in major securities markets, and these investments are often 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. 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. The ten largest companies in terms of market capitalization represented approximately 42.6% of the aggregate market capitalization of the B3 as of December 31, 2021.
Investors who exchange ADSs for common shares may lose their ability to remit foreign currency abroad and obtain Brazilian tax advantages.
The Brazilian custodian for the common shares underlying our ADSs must obtain a certificate of registration from the Central Bank in order to be entitled to remit U.S. dollars abroad for payments of dividends and other distributions relating to our common shares or upon sales of our common shares. If an ADR holder decides to exchange ADSs for the underlying common shares, the holder will be entitled to continue to rely on the custodian’s certificate of registration for five business days from the date of exchange. After that period, the holder may not be able to obtain and remit U.S. dollars abroad upon sale of our common shares, or distributions relating to our common shares, unless he or she obtains his or her own certificate of registration or registers the investment under CMN Resolution No. 4,373/2014, dated September 29, 2014, (the “4,373 Holder”) which entitles registered foreign investors to buy and sell on a Brazilian stock exchange. If the holder does not obtain a certificate of registration or register under Resolution No. 4,373/2014, the holder will generally be subject to less favorable tax treatment on gains with respect to our common shares.
If a holder attempts to obtain his or her own certificate of registration, the holder may incur expenses or suffer delays in the application process, which could delay his or her ability to receive dividends or distributions relating to our common shares or the return of his or her capital in a timely manner. The custodian’s certificate of registration or any foreign capital registration obtained by a holder may be affected by future legislative changes, and additional restrictions applicable to the holder, the disposition of the underlying common shares or the repatriation of the proceeds of disposition may be imposed in the future.
Further, during the 2018 presidential campaign, the then main contender and current Minister of Economy proposed taxing dividends paid by Brazilian companies and changes in taxation method of interest on equity. If this campaign promise were to be realized, this would increase the tax expenses associated with any dividend, interest on equity or distributions made by Brazilian companies, which could impact us or our shareholders and the value of our common shares and ADSs. Uncertainty regarding the implementation by the current government of related changes in monetary, fiscal and pension policies, as well as pertinent legislation, could contribute to economic instability. These uncertainties and new measures could increase the volatility of Brazilian securities markets.
A holder of common shares or ADSs may face difficulties in protecting his or her interests as a shareholder because we are a Brazilian mixed capital company.
We are a mixed capital company (sociedade de economia mista) organized under the laws of Brazil, and all of our directors and officers and our controlling shareholder reside in Brazil. All of our assets are located in Brazil. As a result, it may not be possible for a holder to effect service of process upon us or these other persons within the United States or other jurisdictions outside Brazil or to enforce against us or these other persons judgments obtained in the United States or other jurisdictions outside Brazil. Because judgments of U.S. courts for civil liabilities based upon the U.S. federal securities laws may only be enforced in Brazil if certain requirements are met, a holder may face more difficulty in protecting his or her interests in the case of actions by our directors, officers or our controlling shareholder than would shareholders of a corporation incorporated in a state or other jurisdiction of the United States. In addition, under Brazilian law, none of our assets which are essential to our ability to render public services are subject to seizure or attachment. Furthermore, the execution of a judgment against our controlling shareholder may be delayed, since the State may only be able to pay a judgment if it is provided for in its budget in a subsequent fiscal year. None of the public property of our controlling shareholder is available for seizure or attachment, either prior to or after judgment.
Mandatory arbitration provisions in our bylaws may limit the ability of a holder of our ADSs to enforce liability under U.S. securities laws.
Under our bylaws, any disputes among us, our shareholders and our management with respect to the Novo Mercado rules, the Brazilian Corporate Law and Brazilian capital markets regulations will be resolved by arbitration conducted pursuant to the B3 Arbitration Rules in the Market Arbitration Chamber. Any disputes among shareholders and ADR holders, and any disputes between us and our shareholders and ADR holders, will also be submitted to arbitration. As a result, a court in the United States might require that a claim brought by an ADR holder predicated upon the U.S. securities laws be submitted to arbitration in accordance with our bylaws. In that event, a purchaser of ADSs would be effectively precluded from pursuing remedies under the U.S. securities laws in the U.S. courts. However, a court in the United States could allow claims predicated upon the U.S. securities laws brought by holders who purchased ADSs on the NYSE to be submitted to U.S. courts.
A holder of our common shares and ADSs might be unable to exercise preemptive rights and tag-along rights with respect to the common shares.
U.S. holders of common shares and ADSs may not be able to exercise the preemptive rights and tag-along rights relating to common shares unless a registration statement under the U.S. Securities Act of 1933, as amended, or the Securities Act, is effective with respect to those rights or an exemption from the registration requirements of the Securities Act is available. We are not obligated to file a registration statement with respect to our common shares relating to these rights, and we cannot assure you that we will file any such registration statement. Unless we file a registration statement or an exemption from registration is available, an ADR holder may receive only the net proceeds from the sale of his or her preemptive rights and tag-along rights or, if these rights cannot be sold, they will lapse and the ADR holder will receive no value for them.
Holders of our ADSs do not have the same voting rights as our shareholders.
Holders of our ADSs do not have the same voting rights as holders of our shares. Holders of our ADSs are entitled to the contractual rights set forth for their benefit under the deposit agreements. ADS holders exercise voting rights by providing instructions to the depositary, as opposed to attending shareholders meetings or voting by other means available to shareholders. In practice, the ability of a holder of ADSs to instruct the depositary as to voting will depend on the timing and procedures for providing instructions to the depositary, either directly or through the holder’s custodian and clearing system. The deposit agreement also provides that if the depositary does not receive any instructions from a holder of ADRs, the ADR holder may be deemed to have given a discretionary proxy to a person designated by our company and the underlying shares may be voted by such person. However, we have chosen not to designate any person to exercise these deemed proxy rights with respect to any annual or special general meetings, and ADSs for which no specific voting instructions were received by the Depositary were therefore not voted at that meeting.
If we issue new shares or our shareholders sell shares in the future, the market price of your ADS may be reduced.
Sales of a substantial number of shares, or the belief that this may occur, could decrease the prevailing market price of our common and preferred shares and ADS by diluting the shares’ value. If we issue new shares or our existing shareholders sell shares they hold, the market price of our common and preferred shares, and of the ADS, may decrease significantly. Such issuances and sales also might make it more difficult for us to issue shares or ADS in the future at a time and a price that we deem appropriate and for you to sell your securities at or above the price you paid for them. Our controlling shareholder, the state of São Paulo, may decide to undertake a corporate reorganization, for a variety of reasons which could have the effect of diluting existing shareholders and ADS holders or lead to a change of control. See “—Our controlling shareholder is currently discussing proposals for our corporate reorganization. We cannot guarantee that any potential reorganization will not have a material adverse effect on our business, financial condition or results of operations.”
|ITEM 4.||INFORMATION ON THE COMPANY|
A. History and Development of the Company Overview
Companhia de Saneamento Básico do Estado de São Paulo – SABESP is a mixed capital company (sociedade de economia mista) with limited liability. We were incorporated on September 6, 1973, under the laws of the Federative Republic of Brazil. We are registered with the Commercial Registry of the State of São Paulo (Junta Comercial do Estado de São Paulo) under registration number NIRE 35300016831. Our principal executive offices are located at Rua Costa Carvalho, 300, 05429-900 São Paulo, SP, Brazil. Our telephone number is +55 11 3388-8000. Our agent for service of process in the United States is CT Corporation System, with offices at 818 West Seventh Street – Team 1, Los Angeles, CA 90017. We are allowed to operate, in a subsidiary form, in other Brazilian locations and abroad. See “Item 4.B. Business Overview— Government Regulations Applicable to Our Contracts—Contracts for the Provision of Essential Basic Sanitation Services in Brazil.”
We operate water and sewage systems in the state of São Paulo, which includes the city of São Paulo, Brazil’s largest city. According to the IBGE, the state of São Paulo is Brazil’s most populous state and the state with the highest gross domestic product, or GDP, in Brazil. For the year ended December 31, 2021, we generated net operating revenue of R$19,491.1 million and profit of R$2,305.9 million. Our total assets amounted to R$53,165.5 million and our total shareholders’ equity amounted to R$24,931.9 million as of December 31, 2021. As of December 31, 2021, we provided water and sewage services to a broad range of residential, commercial, industrial and governmental customers in 375. of the 645 Municipalities in the state of São Paulo, including the city of São Paulo. Substantially all of our concessions or program agreements have 30-year terms. As of December 31, 2021, we lacked formal agreements for 8 of the Municipalities we serve. In addition to the 8 contracts expired in December 2021, from January 1, 2022, through 2030, 25 concession agreements will expire, accounting for 4.0% of our revenues (excluding revenues relating to the construction of concession infrastructure) the year ended December 31, 2021 and 2.5% of our intangible assets and contract assets as of the same date, will expire.
We also supplied water and sewage treatment services on a wholesale basis to two Municipalities, Mogi das Cruzes and São Caetano do Sul, located in the São Paulo metropolitan region. For the year ended December 31, 2021, the São Paulo metropolitan region (including the Municipalities to which we provide water on a wholesale basis) accounted for 70.7% of our operating revenue (excluding revenues relating to the construction of concession infrastructure), while the Regional Systems accounted for 29.3%.
As of December 31, 2021, we provided water services through 9.8 million water connections to approximately 27.8 million people, representing approximately 62% of the total population of the state of São Paulo, and had a water coverage ratio of 98% with respect to all regions. As of that date, we provided sewage services through 8.4 million sewage connections to approximately 24.6 million people and had an effective sewage service ratio of 85%. As of December 31, 2021, we operated using 88,904 kilometers of water pipes and water transmission lines and 61,122 kilometers of sewer lines. We also provide water and/or sewage services to four other Municipalities through special purpose companies.
In addition, we have three partnerships with private companies: Aquapolo Ambiental S.A., Attend Ambiental S.A. and Paulista Geradora de Energia S.A. Aquapolo Ambiental S.A. commenced operations in the second half of 2012 and operates the largest water recycling facility in the southern hemisphere. Aquapolo Ambiental S.A. has the capacity to supply up to 1,000 liters per second to industries in the Capuava petrochemical cluster of the São Paulo metropolitan region, but is currently only providing approximately 450 liters per second as a result of demand. Attend Ambiental S.A. commenced operations in the second half of 2014 to operate a pre-treatment plant for non-domestic effluent in the São Paulo metropolitan region. Paulista Geradora de Energia S.A., which was formed in 2015, focuses on the implementation and commercial exploration of water potential in small hydroelectric power plants, located at Vertedouro Cascata and the Guaraú Water Treatment Plant, with a total capacity of 7 MW. Until the date of this annual report, we had not yet started the operations. See “Note 11 to the Financial Statements - Investments.”
In addition, we provide consulting services regarding the rational use of water, the updating of institutional models, and commercial and operational management in Panama, through a consortium.
The State of São Paulo, our controlling shareholder, is required by State Law No. 11,454/2003 to own at least 50% plus one of our common shares. As of December 31, 2021, the State owned 50.3% of our outstanding common shares. As a mixed capital company, we are an integral part of the São Paulo state governmental structure. Our strategy and major policy decisions are formulated in conjunction with the State Secretariat for Infrastructure and Environment as part of the State’s overall strategic planning. The majority of the members of our Board of Directors and our board of executive officers are nominated by the São Paulo state government.
In addition, our capital expenditure budget is subject to approval by the State legislature and is approved in conjunction with the budget of the State Secretariat for Infrastructure and Environment as a whole. Our financial statements and accounting records are subject to review by the State Accounts Tribunal (Tribunal de Contas), as are all accounts of the State.
Our results of operations and financial condition are generally affected by: (i) our ability to raise tariffs, control costs and improve productivity; (ii) the general economic conditions in Brazil and abroad; (iii) climate conditions; (iv) impacts of regulation for sanitation services; and (v) the impact of pandemics such as COVID-19. Following the water crises, the volume of water billed in the São Paulo metropolitan region continued below 2013 levels as many of our customers continue to apply some of the lower water consumption practices adopted during water crisis. The new Legal Framework for Basic Sanitation introduced several changes that directly affect our business. The COVID-19 pandemic resulted in increased in volumes of water billed in the residential categories and a reduction in the public, commercial and industrial categories which have higher average tariffs, leading to a reduction in the total average tariff, in addition to increases in delinquencies, which are reflected in our results, with a direct impact on revenues. For further information on the water crisis, see “Item 3.D. Risk Factors— Risks Relating to Our Business— Droughts, such as the 2014 – 2015 water crisis, can cause a material impact on consumption habits and, consequently, on our business, financial condition or results of operations” and “Item 4.B Business Overview—The 2014-2015 Water Crisis,” and for information on the COVID-19 pandemic, see “Item 3.D. Risk Factors—Risks Relating to Our Business— Our financial and operating performance may be adversely affected by epidemics, natural disasters and other catastrophes, such as the outbreak of COVID-19.” For further information, on regulatory risks, see “Item 3.D. Risk Factors— Regulatory Risks.”
We believe that our strong business position and future prospects derive from the following strengths:
Well-established business with significant size, scale and know-how to operate in complex urban settings. We are one of the largest water and sewage service providers in the world, according to studies by Global Water Intelligence, which considered the estimated revenue in 2020. We provide water services directly to approximately 27.8 million people and supply water on a wholesale basis to an additional urban population of approximately 0.6 million people. As of December 31, 2021, we had an effective water coverage ratio of 98% in respect of all regions in which we operate. We also provide sewage services directly to approximately 24.6 million people, achieving an effective sewage service ratio of 85% in respect of all regions in which we operate as of December 31, 2021. Our significant size and scale have required us to operate in complex urban settings such as shantytowns (favelas) and environments without urban planning, thereby enabling us to develop well-trained personnel, skills for operating in adverse conditions that we believe our competitors lack.
Operations in Brazil’s most populous and wealthy state. The state of São Paulo, which is located in the most developed and economically active region of Brazil, is the most populous state in Brazil, with an estimated total population of 45.0 million as of December 31, 2021. The city of São Paulo had an estimated total population of 11.9 million as of the same date, while the São Paulo metropolitan region had a total population of 21.3 million. Based on its GDP, the state of São Paulo is the wealthiest state and has the largest economy of any state in Brazil. The GDP of the state of São Paulo was approximately R$ 2.4 trillion representing approximately 31.8% of Brazil’s total GDP, according to the most recent data collected by the IBGE in 2019. The state of São Paulo generates more revenue from water and sewage services than any other Brazilian state.
Strong Base of Contracted Business. We have formal agreements with 367 of the 645 Municipalities in the state of São Paulo, including agreements with the cities of São Paulo and Guarulhos, respectively the first and second largest Municipalities in the State of São Paulo. Most of our contracts have a 30-year term. For the year ended December 31, 2021, income from these agreements accounted for 95% of our gross operating revenues from sanitation services (excluding revenues relating to the construction of concession infrastructure).
Access to low-cost and diverse sources of financing. Our strong cash flow generation from operations and our role as an essential public service provider places us in a privileged position in our industry to obtain low cost, long-term financing from Brazilian public banks, and domestic and international multilateral agencies and development banks. We do not depend on a limited number of sources of financing, but instead have access to various funding alternatives in the Brazilian and international markets to fund our working capital needs and our capital expenditure programs.
Strong corporate governance practices. In 2002, we joined the Novo Mercado segment of the B3, which is the listing segment in Brazil with the highest corporate governance requirements. Additionally, in 2016 Federal Law No. 13,303/16 came into force in Brazil and set new corporate governance standards for Brazilian government-owned and mixed capital companies like our company, as well as their subsidiaries. This law also set new rules that these companies must follow in public bidding procedures when contracting with third parties. As a result, we are committed to certain corporate governance standards that are not otherwise required by Brazilian Corporate Law, which provides heightened protection to our shareholders and enhances the quality of information we disclose to the market.
High quality operations. We believe that we adhere to high standards of service and employ the best available technology in the sanitation business to control the quality of the water we abstract, process and distribute. Of our 16 laboratories in total, our central laboratory and 13 of our regional laboratories are accredited by the National Institute of Metrology, Quality and Technology, Standardization and Industrial Quality, or INMETRO, and comply with the ABNT NBR ISO IEC 17025 standard, thereby assuring the quality and accuracy of our test results. Moreover, our laboratories and field teams use the latest equipment to detect substances controlled by regulations and have highly trained teams to handle contingencies and customer complaints. We believe our technology enhances the efficiency and quality of our operations.
Our mission is to provide sanitation services, contributing to improvements in quality of life and the environment. Our goal is to become a global reference in the provision of basic sanitation services in a sustainable, competitive and innovative manner, focused on the needs of our clients. To this end, our strategic objectives are based upon the guiding principles of water availability, excellence in the provision of services, sustainable growth, fostering and expanding our operating base, innovation and technology, motivation of personnel and expansion of our sewage treatment coverage.
Secure water availability in the areas where we operate. Our goal is to secure the availability of water in the areas where we operate, as well as to promote a rational and integrated use of water resources, respecting demand and critical levels of water for each region, and allocating resources in the short, medium and long run in order to guarantee access to water. Our goal is to consistently meet the needs of our consumers with our services. Furthermore, specifically during 2015 to 2018, we implemented a series of short-term and medium-term initiatives that improved the water security for the metropolitan region of São Paulo. For more information, see “—Capital Expenditure Program.”
Ensure the quality and availability of our services in our existing service area through excellence in service provision and improving our operating efficiency. Our goal is to maintain the water coverage ratio, coupled with a high standard of quality and availability of our services, and meet the expected growth in our operations. We also intend to increase our sewage coverage by adding 1.2 million sewage connections by 2026. In addition, we seek to reduce both physical and non-physical water loss. See “—Capital Expenditure Program.”
We also seek to improve our processes and controls by implementing: (i) a new management model based on the Management Excellence Model that seeks to improve the alignment of management processes and the dissemination of best practices within the company; (ii) an enterprise resourcing planning system, or “ERP system” allowing integration with SAP (administrative/financial modules), and a customer relationship management system, or “CRM system” (Net@suite), to replace our commercial and management information systems, ensuring compliance with regulatory requirements and serving as a structuring tool for digital transformation, through the application of new technologies (Analytics, IA, IoT, Omnichannel, RPA, among others) focused on automation process, customer experience and management of analytical information. The ERP system was implemented in April 2017. The complete implementation of the Net@suite took place in October 2021.
Through these projects we intend to increase our speed and productivity in responding to regulatory changes; to strengthen and streamline our financial, commercial and administrative structure; to provide a solid and integral base of information to support the decision-making process; and to increase the efficiency of our operations while also reducing costs.
Continue to seek sustainable growth. Our goal is to grow while balancing our economic and financial results with environmental and social considerations, to secure positive financial results so as to guarantee investments for the provision of services, as well as to provide adequate and just remuneration for our shareholders. We seek to act as citizens and to promote the well-being of the communities we operate in and the protection of the environment. We aim to apply our principles of financial growth and sustainability to each business unit, assigning goals and setting clear responsibilities for each unit so as to strengthen our financial results. To achieve this goal, we intend to use our best efforts to reduce operating costs and increase productivity and profitability. We plan to improve the management of our assets, as well as to continue to reduce our total operating expenses by automating some of our facilities, streamlining operational processes, implementing integrated planning and further investing in internal technological research and development.
We also plan to continue our efforts to improve our collection of overdue trade receivables from Municipalities to which we provide services, from the State and from other governmental entities, including by exploring opportunities to offset these outstanding debts against certain possessory or property rights over utilities relating to water and sewage systems. We intend to continue to fund our working capital needs and estimated capital expenditure programs with diversified sources of financing, such as domestic and international development banks and multilateral agencies. We will continue to seek market opportunities for low-cost financing and restructuring of our indebtedness if and when advantageous and appropriate.
Since 2008, we have expanded into activities that complement water and sewage services in which we may leverage our know-how, size, scale and profitability. These activities include consulting and management of sanitation systems.
Currently, we provide water and/or sewage services to four other Municipalities through special purpose companies in partnership with private companies. See “Item 4. Information on the Company—History and Development of the Company—Overview.”
Maintain and expand our operating base. We intend to maintain and expand our operating base by searching for new business opportunities. We also regularly explore the possibility of providing water and sewage services in Municipalities in the state of São Paulo in which we currently have no operations or to which we currently supply water and provide sewage treatment solely on a wholesale basis, which on aggregate represent a total population of approximately 14.4 million. We evaluate possible expansion opportunities in terms of proximity to our existing service areas to maximize return on investment and improve our financial performance. In June 2010, we entered into a 30-year agreement with the State and city of São Paulo for the provision of water and sewage services in the city of São Paulo, which in the year ended December 31, 2021, accounted for 44.5% of our gross operating revenues from sanitation services (excluding revenues relating to the construction of concession infrastructure). Between January 1, 2007 and December 31, 2021, we entered into agreements with 342 Municipalities (including our services agreement with the city of São Paulo), of which none were entered into in 2021. These 342 Municipalities accounted for 95% of our total revenues (excluding revenues relating to the construction of concession infrastructure) for the year ended December 31, 2021 and 93.8% of our intangible assets and contract assets as of the same date. As of December 31, 2021, eight of our concessions had expired. These 8 Municipalities accounted for 0.3% of our total revenues (excluding revenues relating to the construction of concession infrastructure) for the year ended December 31, 2021 and 0.5% of our intangible assets and contract assets as of the same date. From January 1, 2022 through 2030, 25 concession agreements will expire, accounting for 4.0% of our revenues (excluding revenues relating to the construction of concession infrastructure) the year ended December 31, 2021 and 2.5% of our intangible assets and contract assets as of the same date, will expire.
Seek opportunities to adopt and develop innovative technology. We stimulate the creation, adoption and diffusion of innovative solutions aiming to generate value and to improve our provision of basic sanitation services while promoting environmental protection and maintaining our competitiveness and profitability. In accordance with our bylaws, our activities comprise water supply, sanitary sewage services, urban rainwater management and drainage services, urban cleaning services, solid waste management services, and also related activities, including the planning, operation, maintenance and commercialization of energy, and the commercialization of services, products, benefits and rights that directly or indirectly arise from our assets, operations and activities. We are also authorized to carry out activities through subsidiaries in other Brazilian locations and in other countries.
In 2021, our Board of Directors approved the revision of our New Business Policy, which established, among others, the rules to be observed when searching for partners in developing new business opportunities. On this direction, in December 2021, we published a public call for studies, development and implementation of solutions to take advantage of photovoltaic energy generation potential in the State of São Paulo and in the municipalities where we operate. For more information, see “Item 5. Operating and Financial Review Prospects—C. Research and Development, Patents and Licenses, etc.”
Establish efficient and competitive ways of motivating, retaining and attracting personnel. We intend to provide our personnel with programs for professional and personal development, growth opportunities and recognition. These programs include competitive benefit packages and a healthy and collaborative work environment. We seek to raise workplace satisfaction, well-being, engagement and productivity.
Expand our sewage treatment coverage. Our goal is to progress in the implementation of sewage collection and treatment structures in an economically and technologically viable way. We had an effective sewage coverage ratio of 92% as of December 31, 2021, and plan to increase this ratio to 95% by 2026, by adding over 1.2 million sewage connections by 2026 and the indicator of consumer units connected to the sewage treatment system from 79% to 90% by 2026. These investments are necessary to restore the quality of the rivers and lakes, providing new sources for water supply. In addition, there are Municipalities in the state of São Paulo representing a total population of approximately 14.4 million to which we currently do not provide water or sewage services, or to which we currently supply water solely on a wholesale basis. Our strong presence in the State and experience in providing water and sewage services places us in a privileged position to expand our sewage services to these additional Municipalities in the state of São Paulo as well as to other Brazilian states and abroad. For more information, see “Item 4.B. Business Overview—Description of our Activities—Sewage Operations” and “Item 4.B. Business Overview—Competition” and “Item 4.B. Business Overview—Tariffs.”
Our strategic objectives also focus on our political and institutional relationships as well as on our commitment to the market to increase shareholder value.
In 2021 we invested R$5.0 billion and between 2022 and 2026 we plan to invest an additional R$23.8 billion to improve and expand our water and sewage systems, increase water security, and meet the growing demand for water and sewage services in the state of São Paulo, thereby encouraging these customers to continue using our services.
We believe that our overall strategy will enable us to meet the demand for high quality water and sewage services in the state of São Paulo as well as in other Brazilian states and abroad, while creating shareholder value and strengthening our results of operations and our financial condition.
State of São Paulo
The state of São Paulo is one of 26 states that, together with the Federal District of Brasília, constitute the Federative Republic of Brazil. The state of São Paulo is located in the southeastern region of the country, which also includes the States of Minas Gerais, Espírito Santo and Rio de Janeiro, and which is, according to IBGE, the most developed and economically active region of Brazil. The state of São Paulo is located on the Atlantic coast of Brazil and is bordered by the states of Rio de Janeiro and Minas Gerais to the north, the state of Paraná to the south and the state of Mato Grosso do Sul to the west.
The state of São Paulo occupies approximately 3.0% of Brazil’s land mass and encompasses an area amounting to approximately 96,000 square miles. According to the SEADE, the state of São Paulo had an estimated total population of 45.0 million as of December 31, 2021. The city of São Paulo, capital of the state of São Paulo, had an estimated total population of 11.9 million, with a total population of 21.3 million inhabitants in the São Paulo metropolitan region, as of December 31, 2021. The São Paulo metropolitan region encompasses 39 Municipalities and is the largest metropolitan region in the Americas and the fourth largest metropolitan region in the world, according to the United Nations’ Data Booklet “The World’s Cities in 2018,” with approximately 47% of the total population of the state of São Paulo as of December 31, 2021. In, the most recent data collected by the IBGE, the GDP of the state of São Paulo was approximately R$2.4 trillion, representing approximately 31.8% of Brazil’s total GDP, and making it the largest economy of any state in Brazil based on GDP. According to the IBGE, the state of São Paulo is also the leading Brazilian state in terms of manufacturing and industrial activity, with a strong position in car manufacturing, pharmaceuticals, computer manufacturing, steel making and plastics, among other activities, as well as a leading position in the banking and financial services industries. The state of São Paulo is the leading export state in Brazil, according to the Brazilian Ministry of Development, Industry and Foreign Trade (Ministério do Desenvolvimento, Indústria e Comércio Exterior), currently Ministry of Economy (Ministério da Economia).
Until the end of the nineteenth century, water and sewage services in the state of São Paulo were generally provided by private companies. In 1875, the Province of São Paulo granted a concession for the provision of water and sewage services to Cantareira Water and Sewage Company (Companhia Cantareira de Água e Esgotos). In 1893, the government of the Province of São Paulo assumed responsibility for the provision of water and sewage services from Cantareira Water and Sewage Company and formed the Office of Water and Sewers (Repartição de Água e Esgotos), a government agency. Since that time, water and sewage services in the São Paulo metropolitan region have been administered by the São Paulo state government. Historically, water and sewage services in substantially all other Municipalities of the State were administered directly by the Municipalities, either by municipal water and sewage departments or through autarquias of the municipal government. Autarquias are relatively autonomous public bodies with separate legal standing, assets and revenues, created by law to carry out the administration of public services where the government deems that a decentralized administrative and financial structure would be advantageous.
In 1954, in response to dramatic population growth in the São Paulo metropolitan region, the São Paulo state government created the Department of Water and Sewers (Departamento de Águas e Esgotos) as an autarquia of the State. The Department of Water and Sewers provided water and sewage services to various Municipalities in the São Paulo metropolitan region.
A major restructuring of the entities providing water and sewage services in the state of São Paulo occurred in 1968, with the creation of the Water Company of the São Paulo metropolitan Region (Companhia Metropolitana de Água de São Paulo), or the “COMASP,” the purpose of which was to provide potable water on a wholesale basis for public consumption in the various Municipalities of the São Paulo metropolitan region. All assets relating to the production of potable water for the São Paulo metropolitan region previously owned by the Department of Water and Sewers were transferred to COMASP. In 1970, the São Paulo state government created the Superintendence of Water and Sewers of the City of São Paulo (Superintendência de Água e Esgoto da Capital), or the “SAEC,” to distribute water and collect sewage in the city of São Paulo. All assets relating to water services previously owned by the Department of Water and Sewers were transferred to the SAEC. Also in 1970, the State created the Basic Sanitation Company of the São Paulo metropolitan Region (Companhia Metropolitana de Saneamento de São Paulo), or the SANESP, to provide sewage treatment services for the São Paulo metropolitan region. All assets relating to sewage services previously owned by the Department of Water and Sewers were transferred to the SANESP. The Department of Water and Sewers was subsequently closed.
On June 29, 1973, pursuant to State Law No. 119/1973, COMASP, SAEC and SANESP merged to form our Company with the purpose of implementing the directives of the Brazilian government set forth in the National Water Supply and Sanitation Plan (Plano Nacional de Saneamento). We were incorporated under the laws of Brazil as a sociedade anônima for indefinite duration. The National Water Supply and Sanitation Plan was a program sponsored by the Brazilian government, which financed capital investments in, and assisted in the development of, state-controlled water and sewage companies. Since our formation, other São Paulo state governmental and state-controlled companies involved in water supply and sewage collection and treatment in the state of São Paulo have been merged into our company. The State has always been our controlling shareholder, as required by State Law No. 11,454/2003. We have therefore been integrated into the São Paulo state governmental structure and our strategies have been formulated in conjunction with the strategies of the São Paulo Secretariat for Infrastructure and Environment (Secretaria de Infraestrutura e Meio Ambiente do Estado de São Paulo). Additionally, a majority of the members of our Board of Directors and our management are appointed by the State Government.
Our capital expenditure budget is subject to approval by the State legislative chamber. This approval is obtained simultaneously with the approval of the budget of the São Paulo Secretariat for Infrastructure and Environment. We are also subject to supervision from the Court of Audit of the State of São Paulo (Tribunal de Contas do Estado de São Paulo), with regard to our accounting, financial and budgetary activities and our operating assets.
In 1994, we were registered with the CVM as a publicly-held company and are therefore subject to the CVM’s rules, including those relating to the periodic disclosure of extraordinary facts or relevant events. Our common shares have been listed on the B3 under the ticker “SBSP3” since June 4, 1997.
In 2002, we joined the Novo Mercado segment of the B3, which is the listing segment in Brazil with the highest corporate governance requirements. In the same year, we registered our common shares with the Securities and Exchange Commission, or SEC, and started trading our shares in the form of ADR – level III on the New York Stock Exchange, or NYSE, under the ticker “SBS.”
In 2004, the State of São Paulo carried out a secondary offer of common shares of our company in the Brazilian and international markets.
State Law No. 12,292/2006 amended State Law No. 119/1973, which created our company, and now authorizes us to provide water and sewage services outside of the state of São Paulo, both to other states of Brazil and to other countries. This law also authorizes us to own interests in other public or private-public companies and Brazilian or international consortia. In addition, this law permits us to incorporate subsidiaries and enter into a partnership with or acquire interests in a private company with a corporate purpose related to the sanitation business.
In December 2007, State Supplementary Law No. 1,025/2007, which provided for the creation of regulatory agencies for the supervision of water and sewage services, created ARSESP, the regulatory agency that regulates and supervises the services we provide.
In September 2017, the State of São Paulo obtained approval for State Law No. 16,525/2017, which authorizes the State of São Paulo to set up a controlling company to hold all of the shares that the State of São Paulo holds in our company. Once established, the controlling company could sell shares to other minority shareholders, including private companies and state-owned companies, provided, however, that the state of São Paulo will continue to hold a majority of the common shares of the controlling company. We are currently awaiting guidance from the State Privatization Program’s Board (Conselho Diretor do Programa Estadual de Desestatização - CDPED), which has authority over our corporate reorganization plan, including the formation of the controlling company, or any other type of corporate reorganization, including a change of control, pursuant to the recent changes to the basic sanitation law. For further information, see “Item 3.D. Risk Factors—Risks Relating to Our Control by the State of São Paulo—Our controlling shareholder is currently discussing proposals for our corporate reorganization. We cannot guarantee that any potential reorganization will not have a material adverse effect on our business, financial condition or results of operations.”
As of December 31, 2021, we provided water and sewage services directly to a large number of residential, commercial and industrial private consumers, as well as to a variety of public entities, in 375 of the 645 Municipalities in the State, including in the city of São Paulo. We also supplied water on a wholesale basis to two Municipalities in the São Paulo metropolitan region.
We currently have six management divisions, each of which is supervised by one of our executive officers.
Our Board of Directors allocates responsibilities to our executive officers following an initial proposal made by our Chief Executive Officer, in accordance with our bylaws. The Chief Executive Officer is responsible for coordinating all management divisions in accordance with the policies and directives established by our shareholders’ meeting, our Board of Directors and board of executive officers, including the coordination, evaluation and control of all functions related to the Chief Executive Officer’s office and staff, integrated planning, business management and corporate organization, communication, ombudsman, regulatory affairs, compliance, risk management, audit and quality.
The Chief Executive Officer represents our company before third parties and certain powers can be granted to attorneys-in-fact. The executive officers described below report to the Chief Executive Officer:
|·||the Corporate Management Officer, who is responsible for marketing (commercial processes), human resources and social responsibility, legal affairs, information technology, asset management, supplies and contracts;|
|·||the Chief Financial Officer and Investor Relations Officer, who is responsible for financial planning, collection of revenues, allocating financial resources to divisions of our company, conducting capital markets and other debt incurrence transactions and managing debt levels, controller, accounting, costs and tariffs, corporate governance and investor relations;|
|·||the Technology, Enterprises and Environment Officer is responsible for environmental management, technological and operational development, quality control of water and sewage, the development, coordination and execution of special investment programs, projects, and research innovation; and|
|·||the Chief Operating Officer for the São Paulo metropolitan region Division and the Chief Operating Officer for the Regional Systems Division, who are responsible for managing the operation, maintenance, execution of works and services for water and sewage supply systems (including for the services that we provide on a wholesale basis), sales and call center services, and have overall responsibility for the financial and operational performance of their divisions. The Chief Operating Officers are also responsible for sanitation advisory services to independent Municipalities, negotiating contracts for water supply and sewage treatment services and for mediation and negotiation with communities and local governments, aimed at aligning our interests with the interests of our clients.|
Capital Expenditure Program
Our capital expenditure program is designed to improve and expand our water and sewage system and to increase and protect our water sources in order to sustain water security, meet the growing demand for water and sewage services in the state of São Paulo and improve the overall environmental impact of our activities. Our capital expenditure program has four specific goals with respect to the Municipalities we serve:
(i) to continue to increase water security and meet increased demand for treated water;
(ii) to expand the percentage of households connected to our sewage system;
(iii) to increase the treatment of sewage collected; and
(iv) to increase operating efficiency and reduce water loss.
We have budgeted investments in the total amount of R$23.8 billion from 2022 through 2026. We invested R$5.0 billion, R$4.4 billion and R$5.1 billion in 2021, 2020 and 2019, respectively.
The following table sets forth our planned capital expenditures for water and sewage infrastructure for the years indicated:
Our capital expenditure program from 2022 through 2026 will continue to focus on achieving our targets by making regular investments to maintain and expand our infrastructure and to reduce water losses in the 375 Municipalities we served as of December 31, 2021.
Main Projects of Our Capital Expenditure Program
The following is a description of the main projects in our capital expenditure program.
Investments in Water – We have a series of ongoing and scheduled projects involving water production and distribution. For the period from 2022 through 2026, we plan to spend R$9.9 billion in water-related investments. The main programs are:
Metropolitan Water Program
Demand for our water services has grown steadily over the years in the São Paulo metropolitan region and has at times exceeded the capacity of our water systems. On account of the high demand, prior to September 1998, a portion of our customers in this region received water only on alternate days of the week. We refer to this as “water rotation.” Further, the metropolitan region lacks water resources, which requires us to obtain water from increasingly distant sources. In order to address this situation, we implemented the Metropolitan Water Program (Programa Metropolitano de Água) to improve regular water supply to the entire São Paulo metropolitan region. This program terminated in 2000 and the water rotation measure was eliminated, but we have nevertheless maintained our investment plans for the region.
Since 2000, the Metropolitan Water Program has increased the production capacity by 13.1 m³/s, with the aim of improving the structure of the supply system in the São Paulo metropolitan region, by expanding the water production, and distribution systems. In March 2018 we concluded the interconnection of the Jaguari (part of the Paraíba do Sul Basin) and Atibainha reservoirs (part of the PCJ River Basin, Cantareira System), which is also strategic to guarantee secure access to water for the metropolitan region of São Paulo. Through such interconnection, we are able to transfer 5.13 m³/s (annual average) to 8.5 m³/s (maximum) of water from Jaguari to Atibainha. Since May 2018, the transfer of water also works in the opposite direction, from the Atibainha reservoir to the Jaguari reservoir, allowing us to optimize the reservation capacity of both reservoirs, while benefiting the population of the Paraíba Valley.
With regard to PPP São Lourenço, as of December 31, 2021, the estimated amount of the PPP contract was R$6.0 billion (including R$2.2 billion in construction and maintenance and operation of the system). After monetary adjustment, the contract amounts to approximately R$7.8 billion and has a 25-year term, four years of which was dedicated to the construction, while the other 21 years will be dedicated to service delivery. These services include the operation and maintenance of the sludge treatment system of the water treatment plant and disposal of the waste thus generated; electromechanic and civil maintenance of the untreated water pumping stations, of the water treatment plant and the untreated water pipeline; preservation and cleaning, surveillance and property security. The system indirectly benefits the entire São Paulo metropolitan region as it is connected to the metropolitan system, which increases the volume of available water.
Reversal of the Itapanhaú River
This is the third major project of the many structural interventions to ensure water security in the São Paulo metropolitan region. Through the reversal of the Itapanhaú River basin to the Biritiba reservoir, part of the Alto Tietê Production System is expected to have the capacity to pump an average of 2 m3/s (maximum of 2.5 m3/s) of water to the Biritiba reservoir. The project aims to improve water security in the São Paulo metropolitan region and is expected to directly benefit approximately 4.5 million residents that receive water from the Alto Tietê Production System as well as indirectly benefit the population of the greater São Paulo region. The construction works began in June 2020 and are estimated to finish in 2022. This project is partially funded out of our own resources and from funds provided by Caixa Econômica Federal.
Program for Reduction of Water Loss
The Program for the Reduction of Water Loss aims to achieve a steady reduction in water loss in the long term, through the implementation of various operational and maintenance improvement measures, in addition to important actions to renew and improve the infrastructure.
As a result, the rate of total losses index has decreased gradually, from 41.0% in 2004 to 27,9% in 2021. The loss in liters per connection per day, considered the most suitable index, has also shown a decrease. In 2021, the index reached 252 liters per connection per day, 54% less than 2004, when the indicator registered 547 liters per connection per day.
The losses in the municipality of Guarulhos were accounted for in this index as of January 2021. The losses in the municipality of Santo André will be accounted for in this index as of January 2022. The losses accounted in the municipality of Guarulhos will lead to an increase of about 10 liters per connection per day in the loss index. Accordingly, the goal for 2022 is to reach an index of 250 liters per connection per day, including the municipality of Santo André. Part of the resources allocated, to the program came from our own resources and the remainder from financing granted by the Japan International Cooperation Agency (JICA), BNDES and by incentivized debentures provided for in Law No. 12,431/2011.
Coastal Water Program
The Coastal Water Program (Programa Água no Litoral) combines various long-term activities to expand water production capacity in the Baixada Santista metropolitan region on the southern coast, as well as on the “northern coast” of the State of São Paulo. The program aims to benefit approximately three million people, including both the local population and tourists. It aims to increase the level of reliability of the local systems, eliminating existing and potential deficiencies and irregularities in the water supply. In order to reach this goal, we have been investing in upgrading water treatment plants in several Municipalities since 2013, such as Mambu-Branco Water Treatment Plant, located in Itanhaém. This expansion is financed by incentivized debentures. In addition, we will build a Melvi Water Treatment Plant in Praia Grande and five metallic reservoirs in Santos, Bertioga, Peruíbe, Itanhaém and Guarujá, which together will increase the reservation capacity in the region.
In the northern coast, we have made numerous investments aimed at expanding water security, improving and increasing the capacity of water production units, and we have implemented certain actions to optimize water distribution units to meet demand in the high season. Among the investments initiated, we highlight the expansion of the Água Branca Water Treatment Plant in Ilhabela.
Sustainable and Inclusive Sanitation Program
The Sustainable and Inclusive Sanitation Program integrates water security and social inclusion and is focused on the Guarapiranga reservoir area in the São Paulo Metropolitan Region, benefiting more than 1 million people. The Program aims to reduce water losses by replacing our water networks and implementing water supply infrastructure in houses with underdeveloped facilities, as well as to improve maintenance and safety control of Guarapiranga reservoir and to expand and optimize sewage collection, and treatment in the area. The Program is supported by funds from the World Bank as well as our own funds.
Investments in Sewage—We have a series of ongoing and scheduled projects involving the collection, removal and treatment of sewage. For the period from 2022 through 2026, we plan to invest R$13.9 billion in sewage collection and treatment. The main programs are:
We have been working in the metropolitan region of São Paulo in sanitation programs that aim to contribute to the revitalization of rivers and streams, and its main program is the Tietê Project.
Established in 1992, the project aims to contribute to the progressive revitalization of the Tietê river and its tributaries, in the Alto Tietê basin, where the metropolitan region of São Paulo is located, through the expansion and optimization of the sewage collection, transportation and treatment system.
Considering the complexity and challenges faced to implement infrastructure projects in crowded and disorderly urbanized areas such as São Paulo, it was necessary to structure the project in stages.
From 1992 to the end of 2021, the investments totaled US$3.3 billion, of which R$898 million were disbursed in 2021. Part of the resources allocated to the Tietê Project are our own capital and the remainder comes from financings granted by the Inter-American Development Bank - IDB, BNDES and Caixa Econômica Federal.
During this period, 1.8 million domestic sewage connections were built and 4.8 thousand kilometers of interceptors, trunk collectors and collection networks were built to collect and transport the sewage to treatment in our plants, whose installed capacity for treatment almost tripled and the equivalent to the sewage generated by 12 million people was directed to treatment.
As a result, the treated sewage outflow in the metropolitan region of São Paulo today is five and a half times greater than that in 1992. This increase, of approximately 450%, is equivalent to the sewage generated by a population of 12 million people. As a result, sewage collection that served 70% of the urbanized area of the metropolitan region of São Paulo in 1992 increased by more than 90% by the end of 2021. Sewage treatment increased from 24% to 85% of the volume collected.
By 2025, the program aims to increase the sewage collection rate in the metropolitan region of São Paulo to 92% and the treatment rate to 90% of the total collected, with the conclusion of the third stage, now under way with a 88% progress, and the works already planned for the fourth stage, with priority interventions currently in concurrent execution.
Finally, we would like to highlight the Novo Rio Pinheiros Project, which is part of the Tietê Project. The Pinheiros River is one of the main tributaries of the Tietê River in the São Paulo metropolitan region, and the improvements in the Pinheiros River will have a direct impact on improving the quality of Tietê’s waters. It is important to point out that the large sewage collection and interception infrastructure built over time as part of the Tietê Project allows the complementary improvements carried out in the Novo Rio Pinheiros River to be immediately connected to the Barueri treatment station. We expected to conclude these improvements in 2022, which will be an important milestone for the Tietê Project.
The Novo Rio Pinheiros Project is an initiative promoted by the state of São Paulo to coordinate several state and municipal entities in an effort to clean up the Pinheiros river in order to reintegrate it into the city and make it a leisure and tourism area. The project includes sewage services, riverbed dredging, programs for the collection and reduction of inadequate urban waste disposal, as well as environmental education actions.
We were encouraged to participate in this initiative as it is relevant to the Tietê Project and we took part in the project by offering an accelerated expansion of the sewage collection network and the installation of new sewage connections in areas not yet served, which is expected to connect approximately 533 thousand residences to the sewage treatment system. In places where the connection to the existing infrastructure is not possible due to settlements along the river bank, as part of the project we will install small sewage treatment plants on the river’s tributaries. Until 2021, approximately 516 thousand residences were connected to the sewage treatment system, that is, an advance of 97% in relation to the established goal. These initiatives are being contracted based on performance (Performance Contract), a form of service contracting that set goals to be achieved by the contractors, with the compensation varying according to the achievement of the proposed targets. That is, compensation will take place upon completion of the construction and will also have a variable part, depending on the final result achieved. Performance evaluation considers targets such as the number of new residences connected to the sewage network and stream water quality.
Clean Stream Program
The Clean Stream Program (Programa Córrego Limpo), a partnership between the State of São Paulo, our company, and the city of São Paulo, aims to decontaminate urban streams in the city of São Paulo by eliminating the discharge of sewage into streams and rainwater runoff routes, cleaning streams and banks, and removing and relocating low-income households located on the banks of streams.
Since 2007, 161 urban streams have been decontaminated and preserved, benefiting approximately 2.9 million people. The program is supported by funds from the Caixa Econômica Federal as well as our own funds. Part of the investment related to the Tietê Project benefits the Clean Stream Program.
In 2021, the program benefited more than 182.5 thousand people, contributing to the collection and treatment of an additional 137 liters per second of sewage.
Clean Wave Program
The Clean Wave Program (Programa Onda Limpa) is the largest environmental sanitation program on the Brazilian coast. Its main goal is to improve and expand the sewage systems in the Municipalities that cover the metropolitan region of Baixada Santista and the north coast, seeking the universalization of sewage services in the region. The program will improve the condition of 82 beaches and will benefit approximately 4 million people, including locals and tourists who visit the coast, especially in the summer months.
Due to the complexity and challenges involved in the implementation of infrastructure projects in coastal regions, the Program was structured in stages. In the first stage, started in 2007, and among other actions 110 thousand sewage connections were implemented, resulting in the increase of the sewage coverage ratio from 53% to 84% in 2021, reaching 100% treatment of the sewage collected. This stage was financed by our own funds and financing from JICA and BNDES.
The second stage of the program began in 2018 and aims to implement approximately 450 kilometers of sewage collection network, 48 thousand new connections, three new sewage treatment plants and improvements to existing sewage treatment plants. In 2019, we began works on sewage collection networks and new connections in the Municipalities of Praia Grande, Mongaguá, São Vicente and Itanhaém. During this phase, investments in all of the nine Municipalities of the Baixada Santista are planned. The second stage of the Program is financed by incentivized debentures. We expect to conclude this stage by 2025, reaching a sewage collection index of 90%, and treating all collected sewage of the Baixada Santista.
The execution of the third stage of the program, which aims to achieve universal sewage collection and treatment, is estimated between 2026 and 2033, and aims to provide sewage collection index of 95% and treatment of all sewage collected.
Other Policies and Programs
The Nossa Guarapiranga Project launched in December 2011 is still running. Its main objective is to improve the water quality in the Guarapiranga basin, an urban water source for the São Paulo metropolitan region, which supplies more than 4 million people.
We carried out actions on three fronts as part of this project: (i) we installed ecobarriers at the mouth of the reservoir’s main effluents in order to retain solid residue in the Guarapiranga basin; (ii) we developed diagnosis and control services for the removal of water plants that obstruct water extraction; and (iii) we removed and disposed of solid residue that had accumulated at the water surface of the dam in the reservoir. Two vessels were built specifically for this purpose. We work as a collaborative team with the municipal government of São Paulo in the Nossa Guarapiranga Project, with the municipal government of São Paulo transporting all of the residue collected through these fronts to a sanitary landfill. In 2021, we removed an average of 226 m³/month of solid residue and approximately 411 m3/month of water plants from this basin.
Água Legal Program
Created in 2017, the Legal Water Program (Água Legal) aims to promote the proper installation of water distribution systems in communities of high social vulnerability, where residents are poorly supplied with improvised pipes subject to contamination. In 2021, the program brought more comfort and health to approximately 53,000 people in the metropolitan region of São Paulo by replacing precarious and irregular facilities with networks and water meters that bring quality water to the taps. Since the beginning of the Program, approximately 560,000 people in the metropolitan region of São Paulo had their private connections standardized.
In 2012, the State of São Paulo approved a program to subsidize connections to the sewage system for low-income families, of which 80% of the capital expenditures is provided by the São Paulo state government and 20% by us.
The program brought more comfort and health to approximately 104,000 people with sewage connections, new internal installations and replacement of precarious and irregular sewage pipes, providing safe and legally compliant infrastructure for these households. Most of the work for this program was executed by our own personnel, which considerably reduced the need for investments.
In 2019, the original term of the program provided for in State Decree No. 58,208/2012 expired. In February 2022, our Board of Directors approved the renewal of the program.
We believe that this program can increase the efficiency of our other sewage collection programs and help improve water quality in the region’s rivers and basins as well as improve quality of life for low-income families. For more information see “Item 7.B. Related Party Transactions—Agreements with the State.”
B. Business Overview
As of December 31, 2021, we provided water and sewage services to 375 Municipalities in the state of São Paulo under concession agreements, program agreements, other forms of legal arrangements or without formal agreements. We also supplied treated water on a wholesale basis to two Municipalities located in the São Paulo metropolitan region and conurbations. The majority of these concessions have 30-year terms. Between January 1, 2007 and December 31, 2021, we entered into agreements with 342 Municipalities (including our services agreement with the Municipalities of São Paulo and Guarulhos) in accordance with the Basic Sanitation Law, of which none were entered into in 2021. As of December 31, 2021, these 342 Municipalities accounted for 95.0% of our gross operating revenues from sanitation services (excluding revenues relating to the construction of concession infrastructure). In addition to the contracts, the Municipalities entered into cooperation contracts with the State of São Paulo, delegating the regulation and monitoring of the provision of services to ARSESP. As of December 31, 2021, eight of our agreements or concessions had expired but we continued to provide water and sewage services to these Municipalities. From January 1, 2022 through 2030, 25 concession agreements will expire, accounting for 4.0% of our revenues (excluding revenues relating to the construction of concession infrastructure) the year ended December 31, 2021 and 2.5% of our intangible assets and contract assets as of the same date, will expire.
For more information on laws and regulations related to our concession operations, see “—Government Regulations Applicable to our Contracts.”
Description of Our Activities
As set forth in Article 2 of our bylaws, we are permitted to render basic sanitation services with the goal of providing basic sanitation services to the entire population in the Municipalities where we conduct our activities without harming our long-term financial sustainability. Our activities comprise water supply, sanitary sewage services, urban rainwater management and drainage services, urban cleaning services, solid waste management services and related activities, including the planning, operation, maintenance and commercialization of energy, and the commercialization of services, products, benefits and rights that directly or indirectly arise from our assets, operations and activities. We are allowed to act in a subsidiary form in other Brazilian locations and abroad. See “—Government Regulations Applicable to Our Contracts—Establishment of ARSESP.” For a description of our operating segments please see Note 25 to our financial statements as of and for the year ended December 31, 2021.
Operating segments are presented in our annual report in a manner consistent with the internal reporting provided to our chief operating decision maker, which is the Board of Directors and the board of executive officers, as determined under IFRS 8. Under Brazilian GAAP, prior to our conversion to IFRS, the financial information for construction services was not separately presented and construction costs related to concessions were capitalized within property, plant and equipment. As a result, our chief operating decision maker did not review the results of this business. Following our conversion to IFRS, our chief operating decision maker decided to continue to exclude the construction results from the internal reporting of our revenues and expenses, thus not basing their decisions on discrete financial information for that business. Consequently, the business did not qualify as an operating segment under IFRS 8. Nonetheless, after our conversion to IFRS and for IFRS financial statement purposes only, we started to record such results separately as construction revenue and costs under IFRIC 12. Although such information is available discretely, it is not analyzed by our chief operating decision maker as such and is not the basis for operational decisions.
We set forth below a description of our activities.
Wholesale Water Services
As of December 31, 2021, we provided water services on a wholesale basis to two Municipalities located in the São Paulo metropolitan region (Mogi das Cruzes and São Caetano do Sul). Agreements to provide water services on a wholesale basis must comply with the Basic Sanitation Law which requires that the service be supervised by an independent agency, stipulates registration of the cost of the service with the rules published by ARSESP. Our agreements currently comply with the provisions of the Basic Sanitation Law No. 11,445/2007. In 2021, we invoiced approximately 49.7 million cubic meters of water to these Municipalities and the revenues from wholesales water services were R$92.0 million. For more information on this agreement, see Note 10 to our 2021 financial statements.
The Brazilian courts could oblige us to continue to supply water to the Municipalities serviced through our wholesale segment, even when we have not received payments due to us. If they do not pay, we have no way of ensuring that negotiations with these Municipalities or legal action taken against them will result in payments being made. The Municipalities Mogi das Cruzes and São Caetano do Sul have historically paid for our services on time.
Wholesale Sewage Services
Currently, we provide sewage services on a wholesale basis to the Municipalities of Mogi das Cruzes and São Caetano do Sul.
Through these agreements, in 2021 we invoiced approximately 15.8 million cubic meters of sewage collected from these Municipalities served on a wholesale basis. In 2021, our revenues from wholesale sewage services were R$20.0 million.
Our supply of water to our customers generally involves water extraction from various sources, subsequent treatment and distribution to our customers’ premises. In 2021, we produced approximately 2.864.7 million cubic meters of water. The São Paulo metropolitan region (including the Municipalities to which we supply water on a wholesale basis) currently is, and has historically been, our core market, accounting for approximately 70% of water invoiced by volume in 2021.
The following table sets forth the volume of water that we produced and invoiced for the periods indicated:
|Year ended December 31,|
|(in millions of cubic meters)|
|São Paulo metropolitan region||1,984.2||2,032.0||2,012.5|
|São Paulo metropolitan region||1,419.4||1,351.3||1,296.4|
|Santo André (2)||-||53.9||67.1|
|Residencial Social/Favela (4)||-||45.8||-|
(1) Wholesale includes volumes of reuse water and non-domestic sewage;
(2) Billed volume in the retail segment in 2021 and in the wholesale/retail segment in 2020 and 2019;
(3) Billed volume in the wholesale/retail segments in 2021 and in the wholesale segment in 2020 and 2019; and
(4) Volume exempt from paying water and sewage bills in 2020.
The difference between the volume of water produced and the volume of water invoiced generally represents both physical and non-physical water loss. See “—Water Loss.” In addition, we do not invoice:
· water discharged for periodic maintenance of water transmission lines and water storage tanks;
· water supplied for municipal uses such as firefighting;
· water consumed in our own facilities; and
· estimated water loss associated with water we supply to shantytowns (favelas).
Although seasonality does not affect our results in a significant way, in general, higher water demand is observed during the summer and lower water demand during the winter. The summer coincides with the rainy season, while the winter corresponds to the dry season. The demand in the coastal region is increased by tourism, with the greatest demand occurring during the Brazilian summer holiday months.
We can withdraw water only to the extent permitted by the Department of Water and Electric Energy (Departamento de Águas e Energia Elétrica – DAEE) pursuant to water rights granted by it. Depending on the geographic location of the river basin or if the river crosses more than one state (federal domain), the approval of ANA, a federal agency under the Ministry of Regional Development is required. We currently withdraw substantially all of our water supply from surface sources from rivers and reservoirs, with a small portion being withdrawn from groundwater. Our reservoirs are filled by impounding water from rivers and streams, by diverting the flow from nearby rivers, or by a combination of both methods. For more information on water usage regulation, see “—Environmental Matters—Water Usage.”
In order to supply water to the São Paulo metropolitan region, as of December 31, 2021 we relied on 20 reservoirs of non-treated water and 265 reservoirs of treated water, which are located in the areas under the influence of the nine water producing systems comprising the interconnected water system of the São Paulo metropolitan region, and the Guarulhos water supply system. The total capacity of the water sources available for treatment in this area is 82.3 m³/s. Total current installed capacity is 81.7 m³/s and can be distributed to the São Paulo metropolitan region. Average verified production for the water systems of the São Paulo metropolitan region was 61.7m³/s during 2021. The Cantareira, Guarapiranga and Alto Tietê Systems produce 78.6% of the water we distributed in the São Paulo metropolitan region in 2021.
In March 2018, we began operations of one of the important projects for the interconnected water system of the São Paulo metropolitan region with the beginning of the transfer of water from the Jaguari reservoir to the Atibainha reservoir. The interconnection between the Jaguari and Atibainha reservoirs has an average flow of 5.13 m3/s and represents an important increase in water security for the Cantareira System and for the water supply in the São Paulo metropolitan region. For more information see “—Capital Expenditure Program—Main Projects of Our Capital Expenditure Program—Investments in Water.”
The construction of the São Lourenço Production System, another important project for the interconnected water system of the São Paulo metropolitan region, began in April 2014 and was completed in April 2018 and operations began in July 2018. The São Lourenço Production System represents an increase of 6.4m3/s in water availability and 6.0m³ production capacity of the region’s integrated system and is the ninth interconnected production system for the Metropolitan Region. For more information see “—Capital Expenditure Program—Main Projects of Our Capital Expenditure Program— Investments in Water.”
In 2021, the Cantareira system accounted for 36.1% of the water that we supplied to the São Paulo metropolitan region (including the Municipalities to which we supplied water on a wholesale basis), which represented 70.7% of our operating revenues from sanitation services (excluding revenues relating to the construction of concession infrastructure) for the year. For more information, see “Item 3.D. Risk Factors—Risks Relating to Our Business— Droughts, such as the 2014 – 2015 water crisis, can cause a material impact on consumption habits and, consequently, on our business, financial condition or results of operations.”
Current river basin committees are authorized to charge both for water usage and the dumping of sewage into water bodies. We participate in the decentralized and integrated management of water resources established by the National Policy on Water Resources. We are represented by our employees on the State River Basin Committees and the Federal Committees that act in the state of São Paulo and in the National and State Councils on Water Resources.
The following table sets forth the water production systems from which we produce water for the São Paulo metropolitan region:
|(in cubic meters per second)|
|Water production system:|
|Rio Grande (Billings reservoir)||4.4||4.3||4.3|
|Ribeirão da Estiva||0.1||0.1||0.1|
Average of the year ended December 31, 2021, 2020 and 2019.
The Guarapiranga and Billings reservoirs and a portion of some of the reservoirs of the Alto Tietê system are owned by other companies controlled by the State. In the cities of the interior region of São Paulo, our principal source of water consists of surface water from nearby rivers and from wells, whereas in coastal areas, our principal source of water consists of surface water from rivers and mountain springs. For additional information on the Alto Tietê system, see “Item 7.B. Related Party Transactions—Agreements with the State.”
Statewide, we estimate that we are able to supply nearly all of the demand for water in all of the areas where we operate, subject to droughts and extraordinary climate events. We installed 178.9 thousand, 220.4 thousand and 204.8 thousand new water connections in 2021, 2020 and 2019, respectively. The interconnected water system of the São Paulo metropolitan region serves 31 Municipalities, of which 29 are operated directly by us under this system. Through this system, we serve the other two Municipalities on a wholesale basis whereas distribution is the responsibility of the companies or departments related to each municipality.
In order to reach the final customer, the water is stored and transported through a complex and interconnected system. This water system requires permanent operational supervision, engineering inspection, maintenance, and quality monitoring and measurement control.
To ensure the continuous provision of regular water supply, we intend to invest R$23.8 billion from 2022 to 2026 to increase our water production and distribution capacities as well as to improve the water supply systems. In 2021, our total investment in water supply systems amounted to R$1.9 billion, of which R$1.4 billion were invested in the São Paulo metropolitan region.
We treat all water at our water treatment facil