UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM
OR
OR
OR
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 Brazil
(Jurisdiction of incorporation or organization)
(Address of principal executive offices)
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 |
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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 from their obligations under those Sections.
Yes o
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 definition 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
† 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.
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If securities are registered pursuant to Section 12(b)
of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of
an error to previously issued financial statements.
Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). 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).
Yes o
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TABLE OF CONTENTS
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PRESENTATION OF FINANCIAL AND OTHER INFORMATION
General
We maintain our books and records in reais. We prepare our consolidated financial statements (“Consolidated Financial Statements”) in accordance with International Financial Reporting Standards (“IFRS”), as issued by the International Accounting Standards Board (“IASB”). Our audited consolidated financial statements as of December 31, 2023 and 2022 and for each of the three years in the period ended December 31, 2023 (“2023 Consolidated Financial Statements”) are included in this annual report on Form 20-F.
All financial information for the year ended December 31, 2023 was prepared on a consolidated basis, while all financial information for the years ended December 31, 2022 and 2021 was prepared on an individual basis because we had no subsidiaries to consolidate in those years.
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.
Proposed Privatization
On February 28, 2023, the State Privatization Program’s Board (Conselho Diretor do Programa Estadual de Desestatização – “CDPED”), which has authority over corporate reorganization plans involving privatizations of state-owned companies, such as us, agreed to proceed with the hiring of consultancy services to assist with the studies into our proposed privatization, as proposed by the State of São Paulo (“Proposed Privatization”). In April 2023, the State of São Paulo government hired the International Finance Corporation (“IFC”), an agency of the World Bank, as an advisor for this process.
On December 8, 2023, the State of São Paulo enacted State Law No. 17,853/2023, providing the authorization for our Proposed Privatization and its general guidelines. In accordance with this law, the State of São Paulo may reduce or dilute its controlling interest in us through a sale of its common shares through an auction or secondary offering on the relevant stock exchanges within and outside of Brazil or via a primary public offering of our common shares within and outside of Brazil. The CDPED approved, among others, the recommendation for the structure of our Proposed Privatization on April 17, 2024, pursuant to State Law No. 17,853/2023, which will be sent to the Governor of the State of São Paulo for approval. For more information, see “Item 3.D. Risk Factors—Risks Relating to Our Proposed Privatization—Our Proposed Privatization is subject to the fulfillment of certain legal requirements and may be subject to further conditions precedent. If we are not able to fulfill these formal requirements, or to meet such conditions precedent, our Proposed Privatization will not be completed, which may materially adversely affect our prospects and the market price of our common shares and ADSs” and “Item 3.D. Risk Factors—Risks Relating to Our Proposed Privatization.”
State Law No. 17,853/2023 also provides that, if our Proposed Privatization is consummated, our bylaws will be amended to provide for a special class of preferred share, owned exclusively by the State of São Paulo (referred to as a “golden share”), which will grant the State of São Paulo veto power over proposed changes to: (i) our name and headquarters; (ii) our corporate purpose of providing water and sewage services; and (iii) any provisions in our bylaws regarding limits on the exercise of voting rights attributed to shareholders or groups of shareholders. On April 26, 2024, we called an Extraordinary Shareholders’ Meeting to be held on May 27, 2024, to approve changes to our bylaws conditional upon the consummation of our Proposed Privatization. The proposed changes to our bylaws include, inter alia, an authorized capital provision, the golden share terms and conditions, a provision that will have the effect of avoiding the concentration of more than 30% of our common voting shares in the hands of one or a small group of shareholders and poison pill provisions. For more information, see “Item 3.D. Risk Factors—Risks Relating to Our Proposed Privatization—If our Proposed Privatization is consummated, we will no longer have a controlling shareholder that holds more than 50% of our capital stock, which may make us susceptible to shareholder alliances, shareholder conflicts and other events arising from the absence of a controlling shareholder or a controlling group.”
State Law No. 17,853/2023 further authorizes the creation of a fund to support the universalization of sanitation services in the State of São Paulo (Fundo de Apoio à Universalização do Saneamento no Estado de São Paulo – “FAUSP”), connected to the State Secretariat for the Environment, Infrastructure and Logistics (Secretaria de Meio Ambiente, Infraestrutura e Logística do Estado de São Paulo – “SEMIL”). The purpose of FAUSP is to fund basic sanitation activities, including those aimed at reducing tariffs in the sector, to expedite the goal of providing drinking water to 99% of the population and sewage collection and treatment to 90% of the population (“Universalization Targets”) set by Law No. 14,026/2020 (the “New Legal Framework for Basic Sanitation”), advancing the deadline from 2033 to December 31, 2029, pursuant to State Law No. 17,853/2023.
FAUSP will be administered by a guidance council, which will consist of State Secretariats and members chosen by the Governor of the State of São Paulo (“Guidance Council”). The Guidance Council will: (i) monitor the use of FAUSP’s resources, including its budget and financial performance, as well as opining on necessary adjustments; (ii) review and approve FAUSP’s accounts, based on balance sheets, statements or accounting data; (iii) monitor FAUSP’s capital expenditure, in accordance with the financial planning for funding, grants, loans and other costs, evaluate its adequacy in terms of available funds and the corresponding programs and projects; and (iv) establish certain goals and rules related to the program created by the State of São Paulo under State Law No. 14,687/2012, aimed at subsidizing intra-domiciliary extensions necessary to connect to the public sewage collection system for households of low-income families that agree to join such program in municipalities in which we operate (“Pro-Connection Program”). Our Proposed Privatization, besides being subject to State Law No. 17,853/2023, is also guided by the new rules introduced by the New Legal Framework for Basic Sanitation, which had a profound impact on our sector and is intended to address the lack of water supply and sewage treatment for a significant portion of the Brazilian population. As one of the main instruments for achieving the universalization of sanitation services, the New Legal Framework for Basic Sanitation introduced the Universalization Targets.
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The New Legal Framework for Basic Sanitation also promotes the regionalization of services, based on the formation of groups of municipalities that plan and contract for sanitation services collectively. Although each municipality provides for basic sanitation services, the grouping of municipalities seeks to ensure consistency in planning, monitoring, regulating and remuneration of services, which are essential for achieving technical and economic-financial feasibility of services and, ultimately, the universalization.
In addition to authorizing our Proposed Privatization, State Law No. 17,853/2023 establishes that our Proposed Privatization must comply with the following guidelines, among others: (i) to meet the Universalization Targets in all municipalities that we serve in the State of São Paulo, including rural areas and consolidated informal urban centers; (ii) to bring forward the deadline to meet the Universalization Targets to December 31, 2029; (iii) to reduce tariffs, considering the most vulnerable parts of the population, and (iv) to provide for the creation of annual controls to monitor the achievement of the targets referred to in items (i) and (ii) above, indicating investment needs for the coming years.
To meet the contractual targets set by the New Legal Framework for Basic Sanitation and comply with the guidelines set out in State Law No. 17,853/2023, we need to have sufficient funds, as this requires a large amount of capital expenditures in a short period of time. This will be heightened if our Proposed Privatization is consummated given that it brings the Universalization Targets forward to December 31, 2029 and will require us to make even larger investments to achieve these targets. Currently, certain of our program contracts already include the 2029 deadline for the Universalization Targets regardless of our Proposed Privatization, such as our contract with the city of São Paulo. For further information, see “Item 3.D. Risk Factors—Risks Relating to Our Proposed Privatization—We cannot guarantee compliance with the new Universalization Targets for reasons beyond our control, based on the guidelines outlined in the New Legal Framework for Basic Sanitation and the State Law that authorized our Proposed Privatization.”
Additionally, on February 15, 2024, the SEMIL opened Public Consultation No. 01/2024 with the objective of collecting contributions on the draft concession agreement for public water supply and sanitation services to be entered into by us and the Regional Unit for Drinking Water Supply and Sewage Services (Unidade Regional de Serviços de Abastecimento de Água Potável e Esgotamento Sanitário – “URAE”) of the Southeastern region (“URAE-1”), in case our Proposed Privatization is consummated (“Concession Agreement for URAE-1”). The Concession Agreement for URAE-1 aims to replace most of the program contracts and concession agreements in place with the municipalities of the State of São Paulo which are covered by URAE-1, to bring forward the Universalization Targets to 2029 and implement the new regional structure for services provision. The Concession Agreement for URAE-1 will be applicable to all municipalities that have joined the URAE-1, and it will then be executed between URAE-1 (representing the municipalities) and us.
The following documents, among others, were also discussed in Public Consultation No. 01/2024: (i) annex II of the Concession Agreement for URAE-1, which contains the technical annexes for all municipalities that are part of URAE-1, and which present the indicators and targets for coverage, losses, and quality of service provision to be followed; (ii) internal regulation of the deliberative council of URAE-1, which aims to regulate the functioning of this council; and (iii) URAE-1 regional sanitation plan, which establishes planning of sanitation actions in line with the principles of the National Basic Sanitation Plan (“PLANSAB”).
The Public Consultation No. 01/2024 ended on March 15, 2024, and the SEMIL published a report on the contributions on April 30, 2024. The documents discussed in the Public Consultation were updated, and some of the main topics included in the report refer to: rules for sharing efficiency gains, (ii) components of the Weighted Average Cost of Capital (“WACC”) methodology, (iii) improvement of the incentive and penalty mechanisms for us, in the event of non-compliance with the Universalization Targets, (iv) anticipation of amounts to the Municipal Fund for Environmental Sanitation and Infrastructure (Fundo Municipal de Saneamento Ambiental e Infraestrutura – “FMSAI”), and (v) compensation for flooded areas which are unusable for productive purposes, resulting from the implementation of water reservoirs for the supply of the Integrated Water Supply System of the Metropolitan Region of São Paulo (Sistema Integrado de Abastecimento de Água da Região Metropolitana de São Paulo).
On April 22, 2024, we published a material fact to inform our shareholders and the market in general about the summoning of URAE - 1 representatives for the first meeting of the deliberative council, which will be held on May 20, 2024, as well as inform that the following documents were delivered to these representatives: (i) Concession Agreement for URAE-1 and its annexes, indicating the role of ARSESP, (ii) draft internal regulation of the deliberative council of URAE-1, and (iii) draft of the regional basic sanitation plan, pursuant to article 17 of Federal Law No. 11,445/2007. The internal regulations of the deliberative council of URAE-1 – Southeastern will establish the competencies, attributions, organization and other guidelines for the deliberative council.
In the city of São Paulo, the City Council opted to pass a legislative proposal regarding our Proposed Privatization, which was approved through Municipal Law No. 18,107/2024, enacted on May 2, 2024. The Municipal Law No. 18,107/2024 authorized the executive branch of the city of São Paulo to enter into contracts, agreements or any other necessary arrangements, individually or by means of a regionalized arrangement, for the provision of water supply and sewage services in the municipality of São Paulo.
Other municipalities may adopt the position that their local legislation requires the City Council to approve new legislation before the municipality can approve certain aspects of our Proposed Privatization, such as adherence to the URAE and entering into the new Concession Agreement with the URAE-1.
The draft Concession Agreement for URAE-1 introduces significant changes to our current economic-regulatory model. For more information, see “Item 4.B. Business Overview—Tariff Readjustments and Reviews—Economic-regulatory model in the draft Concession Agreement for Public Water Supply and Sanitation Services for the URAE-1 Southeastern region.”
For the risks associated with our Proposed Privatization, see “Item 3.D. Risk Factors—Risks Relating to Our Proposed Privatization.”
Other Information
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:
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| · | “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 (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; | |
| · | “B3” are to B3 S.A. – Brasil, Bolsa, Balcão; | |
| · | “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; | |
| · | “Brazilian Constitution” are to the Constitution of the Federative Republic of Brazil of 1988; | |
| · | “Brazilian Corporate Law” are to Law No. 6,404/1976, as amended; | |
| · | “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”); | |
| · | “COFINS” are to the federal taxes based on the turnover of companies. It is the contribution for the financing of social security (Contribuição para o Financiamento da Seguridade Social); | |
| · | “COPOM” are to the Comitê de Política Monetária (Monetary Policy Committee) of the BCB, responsible for setting the target for the policy interest rate (SELIC); | |
| · | “COVID-19” 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 Research Foundation of the State of São Paulo; | |
| · | “FAUSP” are to the Fundo de Apoio à Universalização do Saneamento no Estado de São Paulo, a fund to support the universalization of sanitation services in the State of São Paulo; | |
| · | “federal government” and “Brazilian government” are to the federal government of the Federative Republic of Brazil and “State of São Paulo government” are to the state government of the State of São Paulo; | |
| · | “GDP” are to gross domestic product, which is the standard measure of the value added created through the production of goods and services during a certain period of time, | |
| · | “IBRD” are to the International Bank for Reconstruction and Development; | |
| · | “IDB” are to the Inter-American Development Bank; | |
| · | “IDB Invest” are to the Inter-American Investment Corporation; | |
| · | “IPCA” are to the Índice Nacional de Preços ao Consumidor Amplo (Extended National Consumer Price Index), the reference for the Brazilian inflation-targeting system; | |
| · | “JICA” are to the Japan International Cooperation Agency; | |
| · | “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; | |
| · | “PASEP” are to Programa de Formação do Patrimônio do Servidor Público, a social contribution payable by companies to finance the funds for insurance for unemployment, child benefit and allowance for low paid workers; | |
| · | “program contract” are to certain inter-federative cooperation agreements entered into within the scope of associated management (pursuant to article 241 of the Brazilian 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; |
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| · | “Proposed Privatization” are to the privatization plan for our company authorized by the State Law No. 17,853/2023, which was proposed by the State of São Paulo, as further described in “Presentation of Financial and Other Information—Proposed Privatization;” | |
| · | “Pro-Connection Program” are to the program created by the State of São Paulo under State Law 14,687/2012, aimed at subsidizing intra-domiciliary extensions necessary to connect to the public sewage collection system, in households of low-income families that agree to join the Pro-Connection Program, in municipalities in which we operate. | |
| · | “real,” “reais” or “R$” are to the Brazilian real, the official currency of Brazil; | |
| · | “Regional Systems” are to the area where the old regional systems’ executive office operated, comprising municipalities in the interior and coastline regions of the State of São Paulo; | |
| · | “SELIC” are to the weighted average interest rate of the overnight interbank operations, collateralized by federal government securities, carried out at the Special System for Settlement and Custody; | |
| · | “SEMIL” are to the State Secretariat for the Environment, Infrastructure and Logistics of the State of São Paulo (Secretaria de Meio Ambiente, Infraestrutura e Logística do Estado de São Paulo); | |
| · | “service” indicators are to (a) the number of homes that are actually connected to the water network or sewage collection network, as a portion of (b) the total number of homes within a given serviceable area; | |
| · | “sewage treatment coverage” indicators are to the amount of consumer units connected to the sewage treatment system; | |
| · | “State of São Paulo” or “State” are to the State of São Paulo, which is also our controlling shareholder; | |
| · | “UNESP” are to the Universidade Estadual Paulista Júlio de Mesquita Filho; | |
| · | “URAE” are to Regional Unit for Drinking Water Supply and Sewage Services (Unidade Regional de Serviços de Abastecimento de Água Potável e Esgotamento Sanitário), as further described in “Presentation of Financial and Other Information—Proposed Privatization;” | |
| · | “URAE-1” are to the URAE of the Southeastern region, as further described in “Presentation of Financial and Other Information—Proposed Privatization;” | |
| · | “U.S. dollars” or “US$” 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 80 years, primarily affected the Cantareira System, our largest water production system; | |
| · | “WHO” are to the World Health Organization; and | |
| · | “WHT” is the Brazilian federal withholding income tax. |
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.
Market Information
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 – “IBGE”), and the State Data Analysis System Foundation (Fundação Sistema Estadual de Análise de Dados – “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 376 municipalities we serve directly and the two municipalities which we account for in our wholesale segment (Mogi das Cruzes and São Caetano do Sul), since our revenue for the fiscal year 2023 is derived from these municipalities. The 376 municipalities include Olimpia, a municipality located in the interior of the State of São Paulo. After executing a public-private partnership with the municipality of Olimpia, on December 11, 2023, we started operating water and sewage services in the city through our wholly-owned subsidiary Sabesp Olimpia S.A. Most of our contracts with the municipalities we serve are program contracts with a 30-year term.
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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, as well as the conflict between Israel and Hamas, the imposition of sanctions and trade embargos and its impacts on the global economy; | |
| · | fluctuations in inflation, interest rates and exchange rates in Brazil; | |
| · | the outcome of our Proposed Privatization and any related legislative, regulatory or political developments; | |
| · | any judicial or other challenges to our Proposed Privatization; | |
| · | the potential impacts of the New Tariff Structure to be implemented, its uncertainties, as well as unpredictability about the revenues we expect to earn with the new structure; | |
| · | the interests of our controlling shareholder; | |
| · | any increase in delinquencies by our customers; | |
| · | 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; | |
| · | risks relating to our material properties, including difficulties in obtaining or renewing existing licenses, authorizations, approvals and permits to build, expand and/or operate our business facilities and challenges to our ownership and possession of our material properties; | |
| · | the impacts on our business of probable increases in the frequency of extreme weather conditions, including droughts and intensive rain and other climatic events; | |
| · | 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; | |
| · | 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 government authority responsible for the services, 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 national 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 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 established that the Universalization Targets must be met by 2033, which was brought forward to 2029 for us pursuant to State Law No. 17,853/2023; | |
| · | 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; |
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| · | the effects of the program contract for provision of water and sewage services in the city of São Paulo, which stipulates an obligation to allocate 7.5% of our revenue from the city of São Paulo to FMSAI, as ARSESP has limited the pass-through of the amount of the tariff 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 impact of widespread health developments, such as COVID-19, and its effects on our operating revenues and financial condition; | |
| · | 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.” |
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.
PART I
| ITEM 1. | IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS |
Not applicable.
| ITEM 2. | OFFER STATISTICS AND EXPECTED TIMETABLE |
Not applicable.
| ITEM 3. | KEY INFORMATION |
| A. | [RESERVED] |
| B. | Capitalization and Indebtedness |
Not applicable.
| C. | Reasons for the Offer and Use of Proceeds |
Not applicable.
| D. | Risk Factors |
Summary of Risk Factors
This section is intended to be a summary of more detailed discussions contained elsewhere in this annual report. The risks described below are not the only ones we face. Our business, results of operations or financial condition could be harmed if any of these risks materialize.
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Risks Relating to Our Proposed Privatization
| · | Our Proposed Privatization is subject to the fulfillment of certain legal requirements and may be subject to further conditions precedent. If we are not able to fulfill these formal requirements, or to meet such conditions precedent, our Proposed Privatization will not be completed, which may materially adversely affect our prospects and the market price of our common shares and ADSs. |
| · | Our controlling shareholder could suspend or terminate the Proposed Privatization. Additionally, our Proposed Privatization may be challenged, which could delay or prevent its consummation. |
| · | If our Proposed Privatization is consummated, the State of São Paulo will no longer be our majority shareholder, which brings uncertainties that are beyond our control regarding the maintenance of our current program contracts. |
| · | Our debentures issuances and financing agreements governing our debt contain change of control provisions that are triggered if the State of São Paulo government ceases to be our controlling shareholder, including in connection with our Proposed Privatization. If we are not able to obtain the necessary waivers or approvals from our debenture holders, bank lenders and/or other creditors, regarding our Proposed Privatization, prior to completion of the Proposed Privatization, those debentures, loans and/or obligations could be subject to acceleration, cross-default, cross acceleration or termination, which could materially adversely affect our financial condition and results of operations. |
| · | If our Proposed Privatization includes a primary offering of common shares by us, our current shareholders will experience immediate dilution after the offering. In addition, if our Proposed Privatization is consummated, our bylaws will contain provisions that limit the voting rights of all shareholders, including non-Brazilian shareholders, which could prevent or delay transactions that holders of our shares or ADRs may favor. |
| · | If our Proposed Privatization is consummated, we will no longer have a controlling shareholder that holds more than 50% of our capital stock, which may make us susceptible to shareholder alliances, shareholder conflicts and other events arising from the absence of a controlling shareholder or a controlling group. |
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. |
| · | Changes in Brazilian tax laws or conflicts in their interpretation may adversely affect us. |
| · | Ongoing political instability has adversely affected the Brazilian economy and may lead to an economic slowdown, which may have an adverse effect on our financial condition and results of operations. |
| · | 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. |
| · | 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. |
| · | Downgrades in Brazil’s credit rating could adversely affect our credit rating, the cost of our indebtedness 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. |
| · | Disruption or volatility in global financial and credit markets could have a material adverse effect on us. |
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. |
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| · | Our right to withdraw water from the Guarapiranga and Billings reservoirs is being challenged judicially by minority shareholders of EMAE. |
| · | Transactions with related parties, including as part of our Proposed Privatization, may not have comparable market terms available and may not be entered into on an arm’s length basis, which could expose us to lawsuits and affect our financial results. |
Risks Relating to Our Business
| · | 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. Any updates to the tariff structure may lead to uncertainties in the market as well as unpredictability about our future revenues. |
| · | 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. |
| · | Any failure to obtain new funding or to comply with covenants in our existing financing agreements may adversely affect our ability to continue our capital expenditure program. |
| · | Any substantial monetary judgment against us or any of our directors and officers in legal proceedings may have a material adverse effect on our reputation, business or operating or financial condition and/or results. |
| · | 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. |
| · | Our business is subject to cyberattacks and security and privacy breaches. |
| · | Failure to comply with the LGPD or any further privacy and data protection laws enacted in Brazil could adversely affect our reputation, business, financial condition or results of operations. |
| · | Our failure to protect our intellectual property rights may negatively impact us. |
| · | 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. |
| · | We cannot guarantee that our third-party suppliers and/or service providers will not become involved in any irregular practices. |
| · | Our financial and operating performance may be adversely affected by epidemics, natural disasters and other catastrophes. |
| · | If we are not successful in addressing issues related to the occupational health and safety of our employees and the facilities where we conduct our activities, our results and operations could be adversely affected. |
| · | If any of our assets are deemed assets dedicated to providing an essential public service, they will not be available for liquidation and will not be subject to attachment to secure a judgment. |
| · | If our Proposed Privatization is completed, we will no longer be a state-controlled company and will be subject to the Brazilian Bankruptcy Law. |
| · | Strikes, work stoppages or labor unrest by our employees or by the employees of our suppliers or contractors could adversely affect our business. |
| · | If we do not remedy the material weakness in our internal controls, the reliability of our financial statements may be materially affected. |
Risks Relating to Suppliers
| · | Any interruptions in the supply of electricity and water may adversely affect our operations. |
| · | Our business may be adversely affected by reliance on services and products from third-party suppliers. |
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Risks Relating to Our Clients
| · | We are owed some substantial unpaid debts. We cannot assure you as to when or whether we will be paid. |
Risks Relating to Our Management
| · | We depend on the technical qualifications of the members of our management, and we cannot guarantee that we will be able to maintain them or replace them with suitable individuals. |
Risks Relating to the Regulatory Environment
| · | Pursuant to the New Legal Framework for Basic Sanitation, ANA will be responsible for issuing reference standards. Any non-compliance will prevent municipalities or operators from accessing financings and public resources managed or operated by the Brazilian government. |
| · | The regionalization of services, established in 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 prohibits new program contracts for basic sanitation services, resulting in uncertainties for our current and future customer base and size of operations. |
| · | Municipalities may terminate contracts 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. |
| · | We cannot guarantee compliance with the new Universalization Targets for reasons beyond our control, based on the guidelines outlined in the New Legal Framework for Basic Sanitation and the State Law that authorized our Proposed Privatization. |
| · | If the water from our water sources (mananciais) does not meet our water treatment conditions, we may have to interrupt the water treatment process until we are able to treat the water or to substitute the supply of water from another water source. |
| · | Risks associated with the collection, treatment and disposal of wastewater and the operation of water utilities may impose significant costs that may not be covered by insurance, which could result in increased insurance premiums. |
| · | We are exposed to risks of delays or failures in payments associated with the provision of water and sewage services. |
| · | Our water loss and other operational metrics indicate that we will need to make investments in our infrastructure. If any such investments are insufficient in adequately reducing water loss rates, this could have a material adverse effect on us. |
| · | Securing new concessions, new public-private partnerships and new acquisitions involve risks related to the integrations of the adjudicated or acquired businesses, the situation of the assets and the regularity of the operations related to the concessions. |
| · | Risks related to encumbrances, which may adversely affect us in the event of default on the obligations guaranteed by our properties. |
| · | We may not be able keep in force or timely renew all permits and/or licenses for use and operation necessary for the development of our activities. |
| · | According to the Brazilian law regulating concessions and public-private partnership matters, our corporate structure is composed of some special purpose entities, which may result in our responsibility for tax, labor, environmental protection, consumer and bankruptcy matters originated from our subsidiaries. |
| · | We are subject to intervention by the Court of Auditors of the State (Tribunal de Contas do Estado) as well as questioning by third parties related to our concession and program contracts. |
| · | We are subject to penalties related to our registrations, authorizations, licenses and permits for the development of our activities. |
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Risks Relating to Environmental Matters and Physical and Transition Climate Risks
| · | Noncompliance with environmental laws and environmental liability could have a material adverse effect on us, our reputation and image. |
| · | 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 Weather Conditions and Climate Change may have a material adverse impact on our business, financial condition or results of operations. |
| · | 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. |
Risks Relating to Our Common Shares and ADSs
| · | We may need to raise additional funds in the future and may issue additional common shares, which may result in a dilution of your interest in our common shares underlying the ADS. In addition, a dilution of your interest in our common shares underlying the ADS may occur in the event of our merger, consolidation or any other corporate transaction of similar effect in relation to companies that we may acquire in the future. |
| · | International judgments may not be enforceable when considering our directors or officers’ status of residency. |
| · | We may not always be in a position to pay dividends or interest on shareholders’ equity and ADSs. |
| · | 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. |
| · | Investors who exchange ADSs for common shares may lose their ability to remit foreign currency abroad and obtain Brazilian tax advantages. |
| · | 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. |
| · | Mandatory arbitration provisions in our bylaws may limit the ability of a holder of our ADRs to enforce liability under U.S. securities laws. |
| · | 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. |
| · | Holders of our ADSs do not have the same voting rights as our shareholders. |
| · | If we issue new shares or our shareholders sell shares in the future, the market price of your ADS may be reduced. |
| · | Judgments of Brazilian courts with respect to our common shares are required to be payable only in reais. |
| · | Changes in Brazilian tax laws may have an adverse impact on the taxes applicable to a disposition of our shares or ADS. |
Risks Relating to Our Proposed Privatization
Our Proposed Privatization is subject to the fulfillment of certain legal requirements and may be subject to further conditions precedent. If we are not able to fulfill these formal requirements, or to meet such conditions precedent, our Proposed Privatization will not be completed, which may materially adversely affect our prospects and the market price of our common shares and ADSs.
Our Proposed Privatization requires that we fulfill certain legal requirements, in particular obtaining legislative authorization and approval of the transaction structure by the Governor of the State of São Paulo, following the recommendation from the Board of Directors of the CDPED, a body subordinate to the Governor of the State of São Paulo.
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The State Legislative Assembly granted legislative authorization for our Proposed Privatization in December 2023, through the approval of Law 17,853/2023 of the State of São Paulo, which, among others, authorized the executive branch of the state to privatize us and to define the model for our Proposed Privatization to be carried out, based on certain broad guidelines provided for our Proposed Privatization.
Furthermore, State Law No. 9,361/1996, which stipulates general rules for privatizations, provides that the model for the privatization in the State of São Paulo must be approved by the CDPED. This approval was granted on April 17, 2024, and the CDPED: (a) established the timetable of our Proposed Privatization, determining that the public offering must take place in time to use the first quarter financial results of 2024; (b) established the structure of the public offering in a two stage process, with the selection of a strategic investor in the first stage; (c) proposes investment agreement, lock-up agreement and other agreements for the strategic investor; (d) established the guarantee of stability for employees, in accordance with State Law No. 17,853/2023, for a period of 18 months from the effective completion of our Proposed Privatization; and (e) recommended the offering of ordinary shares owned by the State of São Paulo to employees. The determination of the minimum share price and the percentage of the State of São Paulo’s stake in our capital share to be sold, as well as the details of the investment and lock-up agreements will be decided at a future meeting of the CDPED.
The CDPED also forwarded to the representatives of the deliberative council of URAE-1, for their first meeting, the drafts of the Concession Agreement for URAE-1, the internal regulation of the deliberative council, and the regional sanitation plan. On April 22, 2024, we published a material fact to inform our shareholders and the market in general about the summoning of URAE - 1 representatives for the first meeting of the deliberative council, which will be held on May 20, 2024, as well as inform that the following documents were delivered to these representatives: (i) Concession Agreement for URAE-1 and its annexes, indicating the role of ARSESP, (ii) draft internal regulation of the deliberative council of URAE-1, and (iii) draft of the regional basic sanitation plan, pursuant to article 17 of Federal Law No. 11,445/2007. For further information, see “Presentation of Financial and Other Information—Proposed Privatization.”
Additionally, the CDPED approved certain amendments to our bylaws, in order to: (a) establish our authorized capital; (b) create the golden share, which will be exclusively held by the State of São Paulo, giving them veto power over proposed changes to: (i) our name and headquarters, (ii) our corporate purpose of providing water and sewage services, and (iii) any provision in our bylaws regarding limits on the exercise of voting rights attributed to shareholders or groups of shareholders; (c) limit the exercise of voting rights to 30% of our voting shares; (d) limit our Board of Executive Officers to the maximum of seven members; (e) establish that our Board of Directors’ appointment will be conducted by means of slate; (f) prohibit the election of more than three members of our Board of Directors by the State of São Paulo; (g) provide that at least three members of our Board of Directors must be considered independent under the Novo Mercado Regulation; (h) create the Eligibility and Compensation Committee, Sustainability and Corporate Responsibility Committee, and Related Parties’ Transaction Committee; (i) enable us to execute indemnity agreements (contratos de indenidade); (j) provide poison pill provisions to be triggered if any shareholder or group of shareholders holds more than 30% of our capital stock; and (k) adapt our bylaws to the best corporate governance practices.
If we fail to fulfill any of these legal requirements or fail to meet the conditions precedent potentially set forth by the Governor of the State of São Paulo, or if market conditions are not met, we will not be able to complete our Proposed Privatization. In addition, we cannot guarantee that our shareholders will approve the changes to our bylaws necessary to implement our Proposed Privatization, such as the restrictions on voting rights and the poison pill. Any failure to consummate our Proposed Privatization may have a material adverse effect on our future prospects and the market price of our common shares and ADRs. In addition, we would have already spent considerable management time on this process and incurred costs in relation to advisers, legal counsels, independent auditors, and others as part of this process.
For more information, see “Item 3.D. Risk Factors—Risks Relating to Our Proposed Privatization—Our controlling shareholder could suspend or terminate the Proposed Privatization. Additionally, our Proposed Privatization may be challenged, which could delay or prevent its consummation.”
Our controlling shareholder could suspend or terminate the Proposed Privatization. Additionally, our Proposed Privatization may be challenged, which could delay or prevent its consummation.
Our controlling shareholder may suspend or terminate our Proposed Privatization in case it determines that certain criteria of, or market conditions for, our Proposed Privatization are not in the public interest. State Law No. 17,853/2023 authorizes our Proposed Privatization. However, the Governor of the State of São Paulo has the constitutional power to suspend or terminate our Proposed Privatization if he decides that it is not in the public interest, for example, if it does not meet certain criteria, such as market conditions.
OurProposed Privatization would bring forward the deadline to meet the Universalization Targets to December 31, 2029. However, in case our Proposed Privatization is not concluded, the original target of 2033 for the universalization of water supply and sanitary sewage set out in the New Legal Framework for Basic Sanitation would be maintained. Additionally, we would still need to comply with the Universalization Targets stipulated in our contracts with the municipalities. Some of our contracts, such as our contract with the city of São Paulo, states that we will have to comply with the Universalization Targets in the city by the 2029 regardless of our Proposed Privatization being consummated. Bringing forward the deadline to achieve the Universalization Targets increases the challenge of meeting them. Failure to comply with the deadline could lead to sanctions being imposed by the regulatory agency, potentially resulting in the forfeiture of the concession. Additionally, the Concession Agreement for URAE-1, which was under public consultation, also introduces the universalization factor, which is a tariff mechanism that penalizes us in the event of non-compliance with the Universalization Targets (“Factor U”). For further information, see “Item 4.B. Business Overview—Tariff Readjustments and Reviews.”
Additionally, the model and other aspects of our Proposed Privatization, such as the legislative proceeding that resulted in the enactment of Law 17,853/2023 by the State of São Paulo, may be or are being challenged by regulatory bodies, consumer groups and other interested parties, and subsequently suspended by the Brazilian courts, which may delay or even prevent the completion of our Proposed Privatization and have adverse legal and reputational effects on us. Further, the Brazilian courts or regulatory bodies may require us to further adjust the structure of our Proposed Privatization, which may impede or delay it. As of the date of this annual report, there are several ongoing lawsuits challenging in court certain aspects of our Proposed Privatization. See “Item 8.A. Consolidated Financial Statements and Other Financial Information—Legal Claims Related to our Proposed Privatization” for further information about legal proceedings related to our Proposed Privatization.
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In addition, the decision of the State of São Paulo government to proceed with our Proposed Privatization may be affected by market conditions and political decisions, which may also adversely affect our Proposed Privatization and operations. Certain politicians are actively opposed to our Proposed Privatization. As a result, if our Proposed Privatization is consummated, it could be challenged by members of opposition parties.
If our Proposed Privatization is consummated, the State of São Paulo will no longer be our majority shareholder, which brings uncertainties that are beyond our control regarding the maintenance of our current program contracts.
On December 8, 2023, Law No. 17,853/2023 of the State of São Paulo authorized our Proposed Privatization. According to the New Legal Framework for Basic Sanitation, in case of a change of control of state-owned companies, the program contracts in force may be replaced by new concession agreements. If the controller of the public company does not express the need to change the term, object or other clauses of the contract at the time of the privatization, prior approval for the privatization by the public entity contractor is not required. However, if contractual changes are proposed by the State of São Paulo, a proposal to replace the existing contracts must be submitted to the contracting municipalities, which will have 180 days to decide whether to agree to the revised terms. Failure to do so within this period will constitute consent to the proposed contractual changes.
In this respect, the SEMIL published, on February 15, 2024, Public Consultation No. 01/2024, with the objective of collecting contributions on the draft Concession Agreement for URAE-1 to be signed between us and URAE-1, which provides for the proposal of contractual changes and therefore is intended to replace all current contracts with the municipalities covered by URAE-1. The following documents, among others, were also discussed in this Public Consultation: (i) annex II of the Concession Agreement for URAE-1, which contains the technical annexes for all municipalities that are part of URAE-1, and which present the indicators and targets for coverage, losses, and quality of service provision to be followed; (ii) internal regulation of the deliberative council of URAE-1, which aims to regulate the functioning of this council; and (iii) URAE-1 regional sanitation plan, which establishes planning of sanitation actions in line with the principles of the PLANSAB. The Public Consultation No. 01/2024 ended on March 15, 2024, and the SEMIL published a report on the contributions on April 30, 2024. For further information, see “Presentation of Financial and Other Information—Proposed Privatization.”
Some of our program contracts, including the contract with the city of São Paulo, include termination clauses in the event of transfer and/or change of control. These termination clauses are based on paragraph 6, article 13 of Federal Law No. 11,107/2005, which was revoked by article 9 of Federal Law No. 14,026/2020. If the municipalities adopt the understanding that these termination clauses are still effective despite their revocation, and if the current program contracts are not replaced by the Concession Agreement for URAE-1 prior to our Proposed Privatization, the municipalities could declare a termination of their respective program contracts as a result of the completion of our Proposed Privatization, thus adversely affecting our business, financial condition, or results of operations. Further, any reduction in revenues as a result may lead to us no longer being in compliance with the financial covenants contained in our existing financings.
Also, if any municipality with an existing program contract with similar termination provisions decides not to join URAE-1, the termination of their respective program contracts could also be triggered by the completion of our Proposed Privatization, thus adversely affecting our business, financial condition, or results of operations.
Finally, we cannot assure that all the municipalities that as of the date of this annual report are our clients will obtain whenever needed the necessary legislative authorization, have adhered to any URAE and/or will maintain their existing program contracts or execute concession agreements with us. In case municipalities that represent a substantial part of our revenues do not maintain or execute their agreements with us, our business, financial condition, or results of operations may be adversely affected, and we may be prevented from accessing public funding.
Our debentures issuances and financing agreements governing our debt contain change of control provisions that are triggered if the State of São Paulo government ceases to be our controlling shareholder, including in connection with our Proposed Privatization. If we are not able to obtain the necessary waivers or approvals from our debenture holders, bank lenders and/or other creditors, regarding our Proposed Privatization, prior to completion of the Proposed Privatization, those debentures, loans and/or obligations could be subject to acceleration, cross-default, cross acceleration or termination, which could materially adversely affect our financial condition and results of operations.
As of December 31, 2023, the outstanding balance of our indebtedness totaled R$19.5 billion, of which (i) R$7.3 billion relate to debenture issuances in the local market, (ii) R$3.0 billion relate to financing agreements executed with entities such as BNDES, the Brazilian Federal Savings Bank (Caixa Econômica Federal – “CEF”) and the Funding Authority for Studies and Projects (Financiadora de Estudos e Projetos – “FINEP”), and (iii) R$8.4 billion relate to financing agreements executed with multilateral entities, including IFC, IDB Invest, IBRD and JICA, of which R$5.0 billion are guaranteed by the Brazilian government with a counter-guarantee from the State of São Paulo.
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Our debenture issuances contain change of control provisions that will be triggered if our Proposed Privatization is consummated. If we complete our Proposed Privatization but fail to obtain prior waivers from the debenture holders in connection to the Proposed Privatization, we would be subject to acceleration or termination and cross-default or cross acceleration of other financial instruments to which we are party. As of the date of this annual report, the general meetings of the debenture holders of our 27th, 28thand 30th debentures issuances were held, through which the debenture holders granted waivers for our Proposed Privatization subject to certain conditions (such as the payment of a waiver fee, the shareholder structure to take place after the Proposed Privatization and the non-occurrence of rating downgrade event). On April 29, 2024, we called, in the second convocation, the general meeting of the debenture holders of our 26th debenture issuance, and we also expect to call, also in the second convocation, the general meetings of the debenture holders of our 22nd, 23rd, 24th, 25th and 29th debentures issuances expected to be held in May 2024 to obtain the applicable waivers in connection with the Proposed Privatization (in exchange for a waiver fee to be paid to the debenture holders and the fulfillment of the criteria and conditions agreed with the debentures holders). The waiver fee being proposed in the management proposals for the general meetings of the debenture holders to be held in the second convocation, is of 0.10%, to be applied to the updated outstanding balance of the debentures calculated on the date of the general meeting.
At the date of this annual report, we cannot guarantee that the required waivers will be granted by requisite debenture holders within the terms required and waiver fee proposed. If we fail to obtain the required waivers by the requisite debenture holders, or if the waivers are not granted on the terms required for the completion of the Proposed Privatization (in current process of definition), we may need to renegotiate the terms of such required waivers or early redeem certain of those issuances (if permitted), which may affect the timetable for the completion of our Proposed Privatization and materially adversely affect our financial condition and results of operations. In addition, even if the waivers are granted by the debenture holders, in case there is a rating downgrade as a result of our Proposed Privatization this would lead to the early maturity of our debenture issuances.
On March 28, 2024, we sent a notice to the fiduciary agent and to the debenture holders of our 12th debentures issuance, requesting the early redemption of the outstanding balance of those debentures by June 3, 2024, pursuant to the terms and conditions described on the indenture.
In addition to the debentures, certain financing agreements also contain change of control provisions that will be triggered if our Proposed Privatization is consummated. We have sent waiver requests to the lenders under these agreements, and we are currently in negotiations to obtain them.
25.1% of our outstanding financing agreements, namely those executed with the IBRD, IDB Invest and JICA, are guaranteed by the Brazilian government with a counter-guarantee from the State of São Paulo. We have sent waiver requests to these lenders, and approvals are conditioned on the maintenance of the counter-guarantees by the Brazilian government and the State of São Paulo. As of the date of this annual report, we already received the waiver from IBRD, which was granted considering the confirmation of our commitment to perform the obligations under the loan agreements and to achieve the objectives of the related projects, and that the change of control will not affect the validity, terms and conditions of the loan agreements and guarantee agreements. As of the date of this annual report, we have not received confirmation of maintenance of the guarantee and counter-guarantees by the Brazilian government and the State of São Paulo, respectively.
Accordingly, if we are unable to obtain the necessary waivers or approvals regarding our Proposed Privatization from the debenture holders or the lenders or if we do not have sufficient funds to prepay certain of our debts prior to the consummation of our Proposed Privatization, these change of control provisions may be triggered, leading to an acceleration, cross-default, cross-acceleration and/or termination, as applicable, of a significant portion of our outstanding debt, which could have a material adverse effect on our financial condition and results of operations. In addition, any change to the structure of our Proposed Privatization, may require us to obtain further waivers in respect of such changes.
Additionally, if there are any changes to the structure of our Proposed Privatization or the terms under which the waiver requests were prepared within the scope of the debenture issuances and financial contracts indicated above, we will have to request new waivers or approvals from the creditors and the debentures holders, considering the new structure. For more information about our indebtedness, see “Item 5.B. Liquidity and Capital Resources—Indebtedness Financing,” for more information about our Proposed Privatization, see “Presentation of Financial and Other Information—Proposed Privatization,” and for more information about waivers and creditor’s approvals, see “Item 5.B. Liquidity and Capital Resources—Indebtedness Financing—Waivers and Creditor’s Approvals.”
If our Proposed Privatization includes a primary offering of common shares by us, our current shareholders will experience immediate dilution after the offering. In addition, if our Proposed Privatization is consummated, our bylaws will contain provisions that limit the voting rights of all shareholders, including non-Brazilian shareholders, which could prevent or delay transactions that holders of our shares or ADRs may favor.
As of the date of this annual report, it has not been decided whether our Proposed Privatization will include a primary offering of common shares and/or ADSs. If our Proposed Privatization includes a primary offering of common shares and/or ADSs by us, our shareholders will experience immediate dilution after the offering to the extent the offering price per ADS is greater than the book value per share of our common shares.
The absence of a single controlling shareholder or group of controlling shareholders may create difficulties for our shareholders to approve certain transactions, because, among other things, the minimum quorum required by law for the approval of certain matters may not be reached. We and our shareholders may not be afforded the same protections provided by Brazilian Corporate Law against abusive measures taken by other shareholders and, as a result, may not be compensated for any losses incurred. Any sudden and unexpected changes in our management, changes in our corporate policies or strategic direction, takeover attempts or any disputes among shareholders regarding their respective rights may adversely affect our business and results of operations.
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If our Proposed Privatization is consummated, we will no longer have a controlling shareholder that holds more than 50% of our capital stock, which may make us susceptible to shareholder alliances, shareholder conflicts and other events arising from the absence of a controlling shareholder or a controlling group.
If our Proposed Privatization is consummated and certain conditions set forth in Law No. 17,853/2023 are fulfilled, the State of São Paulo will no longer hold, directly or indirectly, at least 50% plus one voting common shares representing our share capital. Also, the laws governing our Proposed Privatization provide that the State of São Paulo government will have a golden share. This golden share, which will be exclusively held by the State of São Paulo, will give them veto power over proposed changes to: (i) our name and headquarters; (ii) our corporate purpose of providing water and sewage services; and (iii) any provisions in our bylaws regarding limits on the exercise of voting rights attributed to shareholders or groups of shareholders. For more information, see “Presentation of Financial and Other Information—Proposed Privatization.”
On April 26, 2024, we called an Extraordinary Shareholders’ Meeting to be held on May 27, 2024, to approve changes to our bylaws conditional upon the consummation of our Proposed Privatization. If approved and our Proposed Privatization is consummated, our bylaws will set forth, inter alia, an authorized capital provision, the golden share terms and conditions, a provision that will have the effect of avoiding the concentration of more than 30% of our common voting shares in the hands of one or a small group of shareholders, as well as poison pill provisions to be triggered if any shareholder or group of shareholders hold 30% or more of our capital stock, pursuant to the Law No. 17,853/2023 and approved by the CDPED on April 17, 2024.
The absence of a controlling shareholder or control group holding more than 50% of our capital stock may hinder the decision-making procedure within the scope of our corporate activities, giving rise to conflicts between shareholders and other events arising from the absence of a controlling shareholder or control group. In addition, we and our shareholders may have greater difficulties in identifying those responsible for situations of abuse of voting rights and conflicts of interest.
The absence of a controlling shareholder or control group holding more than 50% of our capital stock may leave us susceptible to the emergence of a group of shareholders acting jointly (even if without the execution of a formal shareholders' agreement), which will exercise control and, consequently, have decision-making power over our activities. If this occurs, we may experience instability or suffer sudden and unexpected changes in corporate and strategic policies, including through the replacement of its managers.
Further, if our Proposed Privatization is consummated, we cannot assure you that our current management will be reelected or what changes to our policies and corporate strategy any new management might implement. Any sudden or unexpected instability or change in our management, business plan and strategic direction, or dispute between shareholders concerning their respective rights, may adversely affect our business and results of operations.
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, foreign exchange rate controls, currency devaluation or appreciation, capital controls and limits on imports and exports. 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; | |
| · | currency fluctuations; | |
| · | increased unemployment; | |
| · | availability of credit; |
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| · | changes in labor and private pensions regulations; | |
| · | political elections and social and political instability; | |
| · | inflation; | |
| · | liquidity of the Brazilian capital and lending markets; | |
| · | tax and regulatory policies and laws; | |
| · | commodity prices; | |
| · | modifications to laws and regulations according to political, social and economic interests; | |
| · | import and export controls; | |
| · | public debt; | |
| · | economic, political and social instability; | |
| · | water and electricity shortages and rationing; | |
| · | public health, including as a result of epidemics and pandemics, such as the COVID-19 pandemic;” 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 our activities and results of operations, and may also adversely affect the trading price of our common shares and ADSs.
We cannot predict the measures that the Brazilian 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 and our common shares and ADSs. For more information, see “Item 3.D. Risk Factors—Risks Relating to Brazil—Ongoing political instability has adversely affected the Brazilian economy and may lead to an economic slowdown, which may have an adverse effect on our financial condition and results of operations.” 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.
Changes in Brazilian tax laws or conflicts in their interpretation may adversely affect us.
The Brazilian government has frequently discussed and implemented various changes to the tax regime, including entering into or modifying tax treaties, that may affect companies and their customers. These changes include changes to the current tax rates, the creation of temporary or permanent taxes and/or the cancellation of benefits in effect, the proceeds of which are allocated to government projects. These changes may result in increases in our tax liabilities, which could adversely affect our profitability and results of operations. In addition, certain tax laws may be interpreted by tax authorities in a way that is controversial. As a result, we may be adversely affected in the event of a different interpretation from the one we currently reply upon to carry out our transactions. We cannot assure that we will be able to maintain our projected cash flows and profitability following any increases in Brazilian taxes applicable to our operations, which may adversely affect our results of operations and financial condition.
Brazil is currently undergoing tax reforms which will significantly impact the business environment, such as the recent constitutional reform of taxes on consumption of goods and services.
On December 15, 2023, the National Congress approved the final wording of Constitutional Amendment Bill (PEC) No. 45/2019, which was enacted on December 20, 2023, as Constitutional Amendment No. 132/2023 (“EC 132”). EC 132 substantially changes the way Brazil taxes goods and services by replacing several of the current “indirect taxes” (ICMS, IPI, ISS and PIS/Cofins) by three new ones: a Goods and Services Tax (IBS), a Contribution on Goods and Services (CBS) and an Excise Tax (IS).
EC 132 will not produce immediate effects, as there is a seven-year transition period, from 2026 to 2032, for the full implementation of the tax reform on consumption taxes. The current indirect taxes (ICMS, IPI, ISS and PIS/Cofins) will coexist and will gradually be replaced by IBS, CBS and IS until completion of the tax reform by 2033.
The next step is the regulation of EC 132 through legislation (complementary and ordinary laws). The Executive Branch must present to the National Congress in the half of 2024 (180 days as of the enactment of EC 132) the bills of law introducing the framework for the new taxes created by the tax reform (IBS, CBS and IS). It is expected that the standard rate for the sum of IBS and CBS, to be generally levied on any type of services and goods (with some limited exceptions), would be around 27%.
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We also highlight that a tax reform on income and payroll taxation is on the agenda of the Brazilian government. EC 132 provides that the executive branch must submit to the National Congress by the first half of 2024 (90 days as of the enactment of EC 132) bills of law for reforming income and payroll taxation. As of the date of this annual report, the executive branch has not yet submitted the respective bills of law.
An attempt to reform income taxation was submitted through Bill of Law No. 2,337/2021. Although the House of Representatives approved this bill in September 2021, it has since stalled in the Senate. This initiative proposes significant changes to the income tax legislation, such as (i) repealing the exemption from income tax on the distribution of dividends by Brazilian companies (and imposing a general 15% income tax rate), (ii) the gradual decrease of the combined Brazilian corporate income tax rates, and (iii) extinguishing the possibility of deducting expenses from the payment of interest on shareholder’s equity (juros sobre o capital próprio – JCP). It is likely that the income and payroll taxation reform resulting from EC 132 will foresee similar provisions to those attempted in Bill of Law No. 2,337/2021.
The impacts caused by changes in tax regimes cannot yet be properly measured. There may be an increase in the tax burden on certain sectors and activities, such as basic sanitation, which could impact our business, results of operations and financial condition. We cannot predict the effects of changes in Brazilian tax laws, and if they may have an adverse effect on our business, financial condition or results of operations.
Ongoing political instability has adversely affected the Brazilian economy and may lead to an economic slowdown, which 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 several ongoing investigations by national and foreign agencies responsible for corruption and cartel investigations, such as the Brazilian Federal Prosecutors’ Office (Ministério Público Federal – “MPF”), the Brazilian Federal Police (Polícia Federal), the CVM, the U.S. Department of Justice and the SEC, among others. These investigations have negatively impacted the Brazilian economy and political environment and have contributed to a decline in market confidence in Brazil.
Allegations, trials and convictions of Brazilian government and State of São Paulo government officials and senior management of Brazilian companies 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.
Furthermore, the President has the power to impose policies and issue governmental acts (Medidas Provisórias) regarding the Brazilian economy that may affect our operations and financial performance. We cannot predict what policies the President will impose, much less whether such new policies or changes in current policies will have an adverse effect on our business or the Brazilian economy. Additionally, the uncertainties regarding the Brazilian government’s ability to implement changes related to monetary, fiscal and social security policies, especially given that the federal legislative branch is currently controlled by opposition parties, may contribute to economic instability. Any difficulty the Brazilian government has in gaining a majority in the National Congress could result in a standoff in the National Congress, political distress and massive demonstrations and/or strikes, which could adversely affect our operations. These uncertainties and any new measures that may be implemented may increase the volatility of the Brazilian securities market.
Historically, political crises have affected investor confidence as well as public opinion, and any of the above factors may create additional political uncertainty, which could harm the Brazilian economy and, consequently, our business, results of operations, 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 – “IGP-M”), used to measure the country’s inflation, recorded deflation of 3.18% for the year ended December 31, 2023, inflation of 5.45% for the year ended December 31, 2022 and inflation of 17.78% for the year ended December 31, 2023. The SELIC, the Brazilian federal funds rate and official overnight interest rate in Brazil, was 11.75%, 13.75% and 9.25% in the years ended December 31, 2023, 2022 and 2021, respectively. Since year-end 2023, the SELIC rate has gradually been reduced to 10.75%, 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.
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The Brazilian annual inflation rates, as measured by the IPCA, were 4.62%, 5.79% and 10.06% in the years ended December 31, 2023, 2022 and 2021, respectively. In 2021, the IPCA reached its highest accumulated annual inflation since 2015, according to data provided by IBGE. In 2022, the accumulated inflation slowed down compared to 2021, and it continued to slow down in 2023. However, the inflation rates in the years ended December 31, 2023, 2022 and 2021 were all above the predetermined and previously announced target ranges, which were 5.31%, 5.03% and 3.32%, respectively. If Brazil once again experiences 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, 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. During 2021, the real was very volatile and depreciated by 7.4% against the U.S. dollar by year-end. During 2022, there was an appreciation of the real by 6.5% against the U.S. dollar and by 18.4% against the Japanese Yen. As of December 31, 2023, the commercial selling rate as reported by the Central Bank was R$4.8413 per US$1.00. As of April 24, 2024, the commercial selling rate as reported by the Central Bank was R$5.1592 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 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 would also increase our total debt, which 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$2.7 billion as of December 31, 2023, and we anticipate that we may incur additional amounts of foreign currency denominated debt in the future. In December 2023, our Board of Directors approved our Hedging Policy, which is available on our website but not incorporated herein, and in April 2024, we entered into derivative instruments (plain vanilla swaps), effective from April 2024 until December 2024, to fully protect us against a devaluation of the real against the U.S. dollar or the Yen. However, we cannot guarantee that we will be able to renew these derivative instruments in the future or, if we are able to renew them that it would be on the same terms or at a price that is equally as favorable to us.
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 2023 Consolidated 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.
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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 our common shares and ADSs.
Rating agencies periodically evaluate Brazil and its sovereign ratings, based on a number of factors, including macroeconomic trends, fiscal and budgetary conditions, debt metrics and the prospect of changes in any of 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. Brazil lost its investment-grade status from all three major rating agencies (Standard & Poor’s, Moody’s and Fitch) in 2015 and, consequently, the trading prices of securities in the Brazilian debt and equity market were negatively affected.
As of the date of this annual report, Brazil’s sovereign credit ratings were BB with a stable outlook, Ba2 with a stable outlook and BB with a stable outlook by S&P, Moody’s and Fitch, respectively, which is below investment grade.
Any further downgrade in Brazil’s sovereign credit rating may increase investors’ perception of risk on the country and, consequently, of Brazilian companies (including us), which may increase future funding costs and negatively affect interest and profit margins, impacting 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.
Global markets are experiencing volatility following the escalation of geopolitical tensions, in particular in connection with the military conflicts between Russia and Ukraine and also between Israel and Hamas. Economic sanctions imposed by the United States, the European Union, the United Kingdom and other countries as a direct consequence of these conflicts may impact supply chains, lead to market disruptions, including significant volatility in commodity prices and the global financial system, including through credit and capital markets instability.
The escalation of the Russia-Ukraine and Israel-Hamas conflicts may increase geopolitical tensions around the world and cause further disruption to international trade, industrial supply chains and transport, increase market price volatility, which may adversely affect our business and cost of operations, as well as limit our ability to obtain foreign financing to fund our operations and capital expenditures.
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 gross domestic product (“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.
Disruption or volatility in global financial and credit markets could have a material adverse effect on us.
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Volatility and uncertainty in global financial and credit markets have generally led to a decrease in liquidity and an increase in the cost of funding for Brazilian and international issuers and borrowers. Such conditions may adversely affect our ability to access capital and liquidity on financial terms acceptable, if at all. If we are unable to access capital and liquidity on reasonable financial terms acceptable to us or at all, our financial condition and results of operations may be adversely affected. In addition, the economic and market conditions of other countries, including the United States, countries in the European Union and emerging markets, may affect the volume of foreign investments in Brazil. If the level of foreign investment declines, our access to capital may likewise decline, which could negatively affect our business, ability to take advantage of strategic opportunities and, ultimately, the trading price of our ADSs.
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 State of São Paulo 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, 2023, the State of São Paulo owned 50.3% of our outstanding common shares.
Our operations affect the commercial, industrial, and social development policies promoted by the State of São Paulo, and the State of São Paulo may pursue some of its macroeconomic and social objectives through us. Therefore, we may, subject to legal and bylaws limitations, engage in activities that give preference to the objectives of the State of São Paulo rather than to our own economic and business objectives, which may incur costs or engage in transactions that may not necessarily meet the interest of our other investors. Both through its control of our Board of Directors as well as by enacting State decrees, the State of São Paulo 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 of São Paulo issued Decree No. 64,879/2020 setting out emergency measures as a result of the COVID-19 outbreak, including exempting customers under the “Residential Social” and “Residential Vulnerable” categories from paying water and sewage bills between March and September of 2020, for all municipalities we serve.
As of the date of this annual report, 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, and consequently, the State of São Paulo is empowered to approve most matters prescribed by law. At our Ordinary General Shareholders’ Meeting held on April 25, 2024, the State of São Paulo appointed 9 out of the 11 elected members, of which 5 members were elected as independent members pursuant to Federal Law No. 13,303/2016 (including the Chairwoman of the Board of Directors).
Additionally, the State of São Paulo government, as our controlling shareholder, may take measures related to business planning, strategies, acquisitions, asset disposals, partnerships, financings or similar transactions, that may be contrary to the interests of other minority shareholders, including ADR holders. However, if our Proposed Privatization is consummated, the interest of the State of São Paulo government will be diluted and the exercise of its voting rights will be limited to only 30% of our voting shares. Also, as provided in State Law No. 17,853/2023, which approved our Proposed Privatization, if our Proposed Privatization is consummated, the State of São Paulo government will be entitled to a preferential share with veto power (referred to as a golden share) over proposed changes to: (i) our name and headquarters; (ii) our corporate purpose of providing water and sewage services; and (iii) any provisions in our bylaws regarding limits on the exercise of voting rights attributed to shareholders or groups of shareholders.
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. (“EMAE”), a company that is also controlled by the State of São Paulo (although it is in the process of being privatized, with a public auction of shares held by the State of São Paulo having already taken place), 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 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 of São Paulo 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 facilities. The plaintiffs allege that the State of São Paulo, in its capacity as controlling shareholder of EMAE, has acted unduly to EMAE’s detriment and in our favor. This lawsuit was dismissed, and an appeal was filed, but the Court upheld the dismissal of the claim stating that the State of São Paulo operated in compliance with the legal system and in the public interest. A further appeal was filed with the higher courts on March 8, 2023. Both the extraordinary appeal and the special appeal were dismissed, and an interlocutory appeal was filed against both decisions. As of the date of this annual report, the lawsuit has been received by the Brazilian Superior Court of Justice (Superior Tribunal de Justiça – “STJ”), which has not handed down its judgment.
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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 – “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. As of the date of this annual report, we are awaiting judgment of the plaintiff’s appeal.
The settlement agreement between EMAE and us mentioned above does not necessarily terminate the separate lawsuits. If one of the ongoing lawsuits by minority shareholders of EMAE requires the State of São Paulo 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. For more information, see “Item 7. Major Shareholders and Related Party Transactions.”
Transactions with related parties, including as part of our Proposed Privatization, may not have comparable market terms available and may not be entered into on an arm’s length basis, which could expose us to lawsuits and affect our financial results.
We are a company controlled by the State of São Paulo and certain transactions that we enter into with companies controlled by the State of São Paulo or governmental entities have no comparable market terms available. Additionally, we cannot guarantee that these transactions have been or will be entered into on an arm’s length basis. This risk will remain even after the consummation of our Proposed Privatization because the State of São Paulo will remain our significant shareholder.
Furthermore, we must comply with Brazilian antitrust and competition regulations, as well as with the disclosure requirements of the CVM, the SEC, and the stock exchanges on which our securities are listed. Any noncompliance with applicable requirements relating to related party transactions could adversely affect our financial condition, may result in regulatory penalties and may expose us to lawsuits from third parties.
Risks Relating to Our Business
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. Any updates to the tariff structure 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. 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 in April 2021.
On March 17, 2022, ARSESP published Resolution No. 1,278 relating to the tariff readjustment, which also postponed the adoption of the New Tariff Structure until the resolution of outstanding definitions necessary for its implementation. On March 1, 2023, ARSESP published Resolution No. 1,388 setting out the regulatory agenda for 2023-2024. As part of this agenda, a public consultation was scheduled for the first half of 2024 aiming to implement the postponed New Tariff Structure. However, on April 6, 2023, ARSESP published Resolution No. 1,395 which revoked Resolution No 1,278 and maintained the current Tariff Structure. A new tariff structure may be implemented subject to the views obtained during a public consultation. As of the date of this annual report, we cannot confirm that a new tariff structure will be implemented, or when it would be implemented, and the draft Concession Agreement for URAE-1 expressly maintains the current tariff structure at least until the end of the first tariff cycle of this new agreement (which will be on 2029). For more information, see “Item 4.B. Business Overview—Tariffs—New 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. For more information, see “Item 4.B. Business Overview—Tariffs—New Tariff Structure.”
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.
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The provision of water and sewage services in the city of São Paulo accounted for 45% of our gross operating revenues from sanitation services (excluding revenues relating to the construction of concession infrastructure) in the year ended December 31, 2023.
On June 23, 2010, the State and the city of São Paulo executed a convention agreement (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 this convention, we executed a service contract on June 23, 2010, with the State and the city of São Paulo, to provide these services for the next 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 FMSAI, established by Municipal Law No. 14,934/2009. For more information, 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 this convention and the service contract we executed in accordance with this convention.
Since the second ordinary tariff revision, which was concluded in 2018 ("Second Ordinary Tariff Revision"), the result of which is published in ARSESP Resolution No. 794/2018, 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. For more information, 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 of amounts related to the transfer of 7.5% of the gross revenues obtained from providing sanitation services in the municipality of São Paulo to FMSAI.
The transfer of 4% of revenues from service providers in different in municipalities to municipal funds was subsequently regulated by ARSESP Resolution No. 870/2019, 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. 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. For the fourth tariff cycle (2021-2024) ARSESP provided that a 4% limit will apply to transfers to municipal funds and that these transfers must be previously approved by ARSESP and recognized as part of the tariffs.
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 FMSAI will not be passed through to customers in full and we cannot assure you when and if this will happen and if it may have an adverse effect on our business, financial condition or results of operations.
From 2010 to December 31, 2023, we transferred approximately R$5.9 billion to FMSAI. 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—Establishment of ARSESP.”
On July 13, 2021, the city 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 pursuant to Resolution No. 794/2018. In summary, this public civil action seeks: (i) the recognition of illegality of the transfer of 7.5% of our gross revenue, related to FMSAI, to the water and sewage tariff applicable in the city of São Paulo; (ii) to establish our liability for any 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 city of São Paulo 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. On August 15, 2022, the city of São Paulo reported that the settlement negotiations were still ongoing, and, as of the date of this annual report, there have been no further developments.
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.
The draft Concession Agreement for URAE-1, which was submitted for Public Consultation No. 01/2024, provides for the full acknowledgment of tariff payments to the FMSAI for the municipality of São Paulo, which means that the 7.5% rate will be recognized in the tariffs. The Public Consultation No. 01/2024 ended on March 15, 2024, and the SEMIL published a report on the contributions on April 30, 2024. See “Presentation of Financial and Other Information—Proposed Privatization” for further information about the contributions for this public consultation, and “Item 4.B. Business Overview—Tariffs—New Tariff Structure” for further information about our tariff structure.
Any failure to obtain new funding or to comply with covenants in our existing financing agreements may adversely affect our ability to continue our capital expenditure program.
Our capital expenditure program will require resources of approximately R$47.4 billion in the period from 2024 through 2028. For the year ended December 31, 2023, we recorded R$6.3 billion in capital expenditures. We funded and we 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.
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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, as well as several non-financial covenants, including the pledging of assets, provision of financial statements and audit reports, no rating downgrade event after our Proposed Privatization and compliance with environmental laws and licenses, among others. Our failure to comply with any of these covenants could seriously impair our ability to finance our capital expenditure program, which could have a material adverse effect on us. For more information on these covenants, see “Item 5.B. Liquidity and Capital Resources—Indebtedness Financing—Financial Covenants.”
If our Proposed Privatization is completed and we are no longer controlled by the State of São Paulo, we will no longer have access to (i) guarantees for our new debt obligations from the Brazilian government or (ii) financings from certain international multilateral agencies and development banks who only lend to sovereign or quasi-sovereign entities. This could mean that we will not be able to receive financings at the same tenors or interest rates that we have received in the past. Accordingly, if our Proposed Privatization is consummated, our funding costs may increase.
Any substantial monetary judgment against us or any of our directors and officers in legal proceedings may have a material adverse effect on our reputation, business or operating or financial condition and/or results.
We are currently a party to several legal proceedings relating to civil, corporate, environmental, labor and tax claims filed against us. These claims involve substantial amounts of money and other remedies. As of December 31, 2023, the total estimated amount of claims related to our legal proceedings was R$57.1 billion (net of R$263.8 million in court deposits), including contingent liabilities and remote loss contingencies.
We recognized provisions for all amounts in dispute that represent a present obligation as a result of a past event and where it is probable that there will be an outflow to settle this obligation in the view of our legal advisors and in light of precedents that cover laws, administrative decrees, decrees or court rulings that have proven to be unfavorable. As of December 31, 2023, the total amount of accrued provisions for claims with a probable likelihood of loss was R$1.8 billion (net of R$132.8 million in court deposits). As of December 31, 2023, claims classified as contingent liabilities amounted to R$55.2 billion, of which R$10.1 billion relate to claims where we classified the risk of loss as possible and R$45.1 billion relate to claims where we classified the risk of loss as remote. In our financial statements, we only disclose information about contingent liabilities we classified as possible loss and do not record or disclose information related to remote contingencies.
In addition, our provisions do not cover all legal proceedings involving monetary claims filed against us and may be insufficient to cover the amount arising from final unfavorable decisions rendered against us, which may have a material adverse effect on our financial condition, reputation and image. Further, one or more of our directors and officers are and/or may become parties to civil, administrative, criminal or tax judicial, administrative or arbitration proceedings, in which the initiation and/or outcome may adversely affect them and impair their ability to perform their duties with us, which could lead to a material adverse effect on our reputation, business or operating or financial condition and/or results. For more information, see “Item 8.A. Consolidated Financial Statements and Other Financial Information—Legal Proceedings” and Note 20 to our 2023 Consolidated 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. We may be subject to investigations and proceedings by authorities for alleged infringements of these laws. These proceedings may result in penalties, fines, damages, sanctions or other forms of liability that could have a material adverse effect on our reputation, business, financial condition and results of operations. There can be no assurance that our internal policies and procedures will be sufficient to prevent, detect and timely implement corrective measures in relation to any unlawful and inappropriate practices, fraud or violations 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. We may in the future discover instances in which we have failed to comply with applicable laws and regulations or internal controls. If any such subsidiaries, employees or other persons engage in fraudulent, corrupt or other unfair business practices or otherwise violate applicable laws, regulations or internal controls, we could become subject to one or more enforcement actions or otherwise be found to be in violation of such laws.
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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 result in penalties, damages, fines and sanctions and represent a material adverse effect our reputation, business, 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 may also 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 cannot assure that these systems adequately protect data and information to avoid confidentiality breaches or that they 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, and it 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 trademark, result in significant legal and financial exposure, lead to a loss of customer confidence in our products and services, and adversely affect 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. For more information, see “Item 16.K. Cybersecurity.”
Failure to comply with the LGPD or any further privacy and data protection 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 (“Brazilian Internet Act”) and Law No. 13,709/2018 (“Brazilian General Data Protection Law” or “LGPD”) and their related regulations, including regulations to be enacted by the Brazilian National Data Protection Authority (“ANPD”).
The LGPD, effective from September 18, 2020—excluding its administrative sanctions, which came into effect on August 1, 2021—provides a comprehensive regulation on the processing of personal data in Brazil. It established detailed rules for the collection, use, processing, storage, and disposal of personal data, which is applicable to all economic sectors and the relationships between customers and companies, employees and employers and others where personal data is processed, both in the digital and physical environment.
Additionally, the LGPD established the ANPD, a public administration authority responsible for ensuring, implementing, and supervising compliance with the LGPD. The ANPD responsibilities include: (i) investigation, including the authority to issue regulations, deliberate on the interpretation of the LGPD, and request information from controllers and processors; (ii) enforcement, in cases of non-compliance with the LGPD, through administrative proceedings; and (iii) education, with the responsibility to disseminate information and promote knowledge of the LGPD and security measures.
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Failure to comply with the LGPD, especially regarding ensuring data subjects’ rights, providing clear information about our personal data processing activities, adhering to the original purpose of data collection, observing legal data storage periods, and implementing required security standards, could subject us to the administrative sanctions of article 52 of the LGPD, enforced by the ANPD. These sanctions, which may be applied individually or cumulatively, include warnings, mandatory incident disclosure, temporary blocking or deletion of personal data, suspension or prohibition of data processing activities, daily fines and fines of up to 2% of the company’s, group’s, or conglomerate’s revenue in Brazil for the last fiscal year, excluding taxes, with a maximum of R$50.0 million per violation.
Moreover, non-compliance with the LGPD and other data protection laws may expose us to liability for material, moral, individual, or collective damages, being subject to risks, such as (i) the filing of lawsuits claiming damages resulting from violations, based not only on the LGPD, but also on other sectorial legislation; and (ii) the application of penalties provided for in the Consumer Defense Code (Law No. 8078/1990) and the Brazilian Internet Act by relevant consumer protection agencies, such as the MPF and the National Consumer Secretariat (Secretaria Nacional do Consumidor). Failure to adhere to the LGPD or any privacy laws or regulations also leads to the risk of individual or collective lawsuits and claims for compensation of damages, especially in cases of information security incidents that result in unauthorized access to personal data.
We cannot guarantee that our personal data processing activities will always be secure and will not be subject to fines and other types of sanctions. The application of penalties, publicizing of infractions or obligations to compensate for failures in the protection of personal data or compliance with the LGPD could adversely affect our reputation, and our results and, consequently, the value of our common shares and ADSs.
Our failure to protect our intellectual property rights may negatively impact us.
We own and license from third parties several intellectual property assets, including trademarks, patents, software, copyrights, and domain names. Therefore, we rely on intellectual property laws and registration authorities in Brazil and abroad, as well as on license agreements, to protect our intellectual property.
Events such as the rejection of patent applications or trademark registrations by the National Institute of Industrial Property (“INPI”), or the unauthorized use or other improper appropriation of our intellectual property assets, especially the “Sabesp” trademark and related brands, can diminish the value of our brands or affect our reputation. Furthermore, we cannot guarantee that the measures taken to protect our intellectual property rights will be sufficient against potential illicit actions by third parties. Similarly, third parties may claim that our products or services, or even our intellectual property assets, violate their intellectual property rights.
Any dispute or litigation related to intellectual property assets, even if it concerns assets of low relevance to our operations, can be costly and time-consuming. Therefore, any situation that affects the protection of our intellectual property assets may have adverse impacts on our business.
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 with impounding water from rivers and streams, by diverting the flow from nearby rivers, or by a combination of both methods. As of December 31, 2023, we had 230 dams for water supply purposes, which are all the dams used as part of our operations.
Our operations may be hampered by numerous factors, including unexpected or unusual geological and/or geotechnical operating conditions, industrial accidents, floods and/or droughts or other environmental occurrences that could result in structural damages and eventually rupture of 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 leakage of sewage, which could affect the regular provision of our services, impacting our customers, the society and the environment. Regarding sanitary sewage, our sewage pipes may also be obstructed due to misuse resulting from the improper release of solid waste and rainwater in the sewage systems, which could also lead to the risks mentioned above.
In particular, the increasing degradation of our water sources (mananciais) may affect the quantity and quality of water available to meet demand from our customers. For more information, 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.”
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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 and image. For more information, 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 planned expansion will be reduced. See also “Item 3.D.— Risks Relating to Environmental Matters and Physical and Transition Climate Risks— Noncompliance with environmental laws and environmental liability could have a material adverse effect on us, our reputation and image” and “Item 4.B. Business Overview—Insurance.”
We cannot guarantee that our third-party suppliers and/or service providers will not become involved in any irregular practices.
Our internal controls, corporate policies and procedures, Code of Conduct and Integrity and compliance program may not be sufficient to prevent irregularities in the operations of third-party suppliers and/or service providers. We have no control over and cannot guarantee that certain of our third-party suppliers and/or service providers will not experience labor-related issues or issues related to environmental legislation and sustainability and, if such third-party suppliers or service providers do so, we may suffer financial losses, damage to our image and, consequently, reduce the value of our common shares and ADSs.
In addition, if our third-party suppliers and service providers fail to comply with their labor or environmental obligations and laws related to social security and the environment, we may be held subsidiary and/or jointly liable for such non-compliance, which may result in fines, obligation to pay the amounts in question and other sanctions that may substantially and negatively affect us. We may also be held liable for the bodily injury or death of employees of third parties who are providing services to us within our facilities or for environmental damages caused, which may adversely affect our reputation and business.
Furthermore, if our third-party suppliers and/or service providers act in breach of ethical business practices and fail to comply with applicable laws and regulations, such as any laws against child or slave labor or environmental protection, our reputation could be adversely affected, as could negative publicity or the imposition of joint or several liability.
Our financial and operating performance may be adversely affected by epidemics, natural disasters and other catastrophes.
Our financial and operating performance may be adversely affected by the outbreak of pandemics, as well as other catastrophes and health epidemics on a regional or global scale. Such outbreaks may result, at different levels, in the adoption of governmental and private measures, including restrictions, as a whole or in part, on the circulation and transportation of persons, goods and services and consequently, in the closure of private establishments and public offices, interruptions to the supply chain, reduction of consumption in general by the population and increased intervention in their economies.
The impact of the COVID-19 pandemic on the global economy and financial markets was significant in 2020 and 2021 and gradually reduced in 2022 and 2023. It also introduced new habits that impacted consumption and, as a result, our business.
Although restrictions imposed to contain the spread of COVID-19 were lifted in 2022, various companies continue to adopt partial remote working regimes. This affected the volume of sales in the commercial, industrial and public categories in 2022, which would have been higher had it not been for the partial remote working policies adopted by these companies. However, in 2023, the volume of sales returned to the normal levels we observed before the COVID-19 pandemic. In addition, the adverse macroeconomic impact of the COVID-19 pandemic in Brazil had a detrimental impact on many parts of Brazilian society and led to increased delinquencies which negatively impacted our results of operations. Our allowance for doubtful accounts decreased by 16.5% for the year ended December 31, 2023 compared to the year ended December 31, 2022, and increased by 21.5% for the year ended December 31, 2022, compared to the year ended December 31, 2021.
Epidemics, natural disasters and other catastrophes may have a negative and significant effect on the world economy and on Brazil’s economy, and include or may include reduction in the level of economic activity; currency devaluation and volatility; increase in the fiscal deficit and constraints to the capacity of the Brazilian government or state governments to make investments and payments and to contract services or acquire goods; delays in judicial, arbitral and/or administrative proceedings; imposition, even if only temporarily, of a more onerous tax treatment of our business activities; decrease the liquidity available in the international and/or Brazilian market; and volatility in the price of raw materials and other inputs, among other effects.
We cannot assure that future events, such as other health catastrophes and epidemics will not result in the spread of contagious viruses that may lead to a renewed imposition of remote work regimes and the closure of non-essential commercial, industrial and public establishments. The occurrence of any of these events and their duration may have material adverse effects on our operating results and financial condition, as well as the trading price of our common shares and ADSs.
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If we are not successful in addressing issues related to the occupational health and safety of our employees and the facilities where we conduct our activities, our results and operations could be adversely affected.
Our operations are subject to extensive federal, state and municipal legislation on occupational health and safety, the implementation of which is overseen by government agencies. Failure to comply with these laws and regulations may result in administrative and criminal penalties, as well as legal repercussions in the labor, civil, tax and/or criminal spheres. There is a possibility of accidents involving our employees and outsourced workers if the technical and legal recommendations are not properly adopted.
The provision of sanitation and waste management services, including the handling of chemicals and hazardous waste, involves operational risks such as equipment defects or malfunctions, problems in training professionals, failures and natural disasters and other unexpected occurrences, which may result in accidents involving our employees, or the need to shut down or reduce the operation of our facilities while corrective actions are taken.
We also need to meet a quota for people with disabilities, which varies from 2% to 5% depending on the total number of employees, and we need to adapt our facilities to provide accessibility and reasonable accommodation for these employees. If we do not comply with these quotas, fines may be imposed by the competent authority, in accordance with the Brazilian Law on the Inclusion of People with Disabilities (Law No. 13,146/2015, as amended) and Law No. 8,213/1991, as well as possible legal proceedings filed by labor authorities seeking compliance with said quota and the potential payment of collective moral damages.
If any of our assets are deemed assets dedicated to providing an essential public service, they will not be available for liquidation and will not be subject to attachment to secure a judgment.
Regardless of the consummation of our Proposed Privatization, a substantial portion of our assets, including our sewage treatment facilities, could be deemed by Brazilian courts to be related to the provision of essential public services. Accordingly, these assets would not be available for liquidation or attachment. In either case, these assets would revert to the relevant municipalities pursuant to Brazilian law and the applicable program contracts. We cannot assure you that any indemnity we receive for such assets would be equal to the market value of the assets or sufficient to reimburse the investments made by us in such assets, which could adversely affect our financial condition.
If our Proposed Privatization is completed, we will no longer be a state-controlled company and will be subject to the Brazilian Bankruptcy Law.
Law No. 11,101/2005, as amended (the “Brazilian Bankruptcy Law”) governs judicial recovery, extrajudicial recovery and bankruptcy. The Brazilian Bankruptcy Law states, in article 2, item I, that its provisions do not apply to federal or state government-controlled and mixed capital companies such as us and our subsidiaries. However, the Brazilian Constitution establishes that mixed capital companies, which operate a commercial business, will be subject to the legal regime applicable to private corporations in respect of civil, commercial, labor and tax matters (article 173, item II, of the Brazilian Constitution). The discussion about the application of the Brazilian Bankruptcy Law to state-controlled companies (including mixed capital companies) is currently subject to the Extraordinary Appeal No. 1,249,945/MG with the Brazilian Supreme Court (Supremo Tribunal Federal – “STF”). The Extraordinary Appeal discusses the constitutionality of article 2, item I, of the Brazilian Bankruptcy Law, which excludes public companies, even those that carry out economic activities in the strict sense of the word, in competition with the private sector, from the legal regime of judicial and extrajudicial reorganization and bankruptcy, given the provisions of article 173, paragraph 1, item II, of the Brazilian Constitution. The Extraordinary Appeal had its general repercussion declared, but its merits are still pending judgment by the STF. Thus, we cannot assure whether the provisions relating to judicial and extrajudicial recovery and liquidation proceedings of the Brazilian Bankruptcy Law would apply to us.
If the Proposed Privatization is consummated, we will no longer be a state-controlled company and, in principle, would be subject to the Brazilian Bankruptcy Law.
Strikes, work stoppages or labor unrest by our employees or by the employees of our suppliers or contractors could adversely affect our business.
As of the date of this annual report, approximately 65% of our employees were labor union members and, in accordance with Brazilian law, all of our employees were represented by labor unions, regardless of their filiation to the labor union. We face strikes and work stoppages from time to time. Disagreements on issues involving our Proposed Privatization, changes in our business strategy, reductions in our personnel, as well as potential employee contributions and benefits, could lead to labor unrest. We cannot ensure that future strikes or work stoppages will not affect our operations or administrative routines or will not affect our Proposed Privatization.
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Strikes, work stoppages, or other forms of labor unrest at our company or our subsidiaries or any of our major suppliers, contractors or their facilities could impair our ability to complete major projects and adversely impact the results of our operations, financial condition, and ability to achieve our long-term objectives. For further information regarding strikes, labor unions and work stoppages, see “Item 6.D. Directors, Senior Management And Employees —Employees.”
If we do not remedy the material weakness in our internal controls, the reliability of our financial statements may be materially affected.
Our management is responsible for establishing and maintaining adequate internal control over financial reporting and for evaluating and reporting on the effectiveness of our system of internal control. Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance IFRS Accounting Standards. As a public company, we are required to comply with the Sarbanes-Oxley Act and other rules that govern public companies. In particular, we are required to certify our compliance with Section 404 of the Sarbanes-Oxley Act, which requires us to furnish annually a report by management on the effectiveness of our internal control over financial reporting. In addition, our independent registered public accounting firm is required to report on the effectiveness of our internal control over financial reporting.
A “material weakness” is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of the annual or interim financial statements would not be prevented or detected on a timely basis. In the course of completing our assessment of internal control over financial reporting as of December 31, 2023, we did not design nor maintain effective internal control over our financial reporting because a material weakness in internal control over financial reporting was identified as of that date related to an inadequate function in our revenue billing system, which allowed the direct insertion and execution of scripts in our Information Technology (“IT”) production environment, and allowed users with administrative access to change file data during the file transfer interface (FTP) from the revenue billing system to the accounting system without adequately designed and implemented segregation of duties controls. This material weakness could have resulted in undue changes to our billing system, potentially compromising the integrity and reliability of the related interfaces between the revenue billing system and the accounting system.
Our internal controls department is responsible for overseeing the implementation of action plans and reports periodically to the Board of Directors and the Audit Committee. If our future efforts are not sufficient to remedy all the inconsistencies identified, we could continue to experience material weaknesses in our internal controls in the future. Any such material weaknesses could adversely affect our ability to accurately prepare our financial statements, which may result in a restatement of our historical financial statements or in misstatements in our future financial statements and, consequently, adversely affect our business and financial condition. See “Item 15—Controls and Procedures” for further details.
Risks Relating to Suppliers
Any interruptions in the supply of electricity and water may adversely affect our operations.
Electricity and the price we pay for it have a significant impact on our operating results. Any material interruptions in the supply of energy could have a considerable negative effect on our activities, financial condition, results of operations 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. Although Brazil recorded the lowest volume of rainfall in 91 years in 2020 and 2021, in 2022 and 2023, the El Niño phenomenon reversed the water crisis experienced in prior years and produced the best reservoir storage in the last 14 years. Nevertheless, it is not possible to predict rain patterns in the future. Increases in the price of energy could have a material impact on our business, financial condition, or results of operations. Moreover, electricity shortages could lead to instability in water supply and sewage collection and treatment services, which could adversely affect our reputation and operations. Additionally, as one of the largest electricity consumers 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 can interrupt the electricity supply and 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.”
Our business may be adversely affected by reliance on services and products from third-party suppliers.
We rely on third parties to supply services, products and equipment used in our facilities. If these third parties fail to comply with deadlines or contractual conditions, we may be adversely affected by any delays or higher costs and penalized for any resulting failure by us to perform a necessary service to the population. If we have to turn to other suppliers to cover any shortfall, changes in market conditions may significantly increase the cost of projects or operations, making them unfeasible, which may have an adverse effect on our results of operations and financial results.
The ability of these third parties to fulfill their obligations may be adversely affected by financial or economic crises or other factors. In addition, several supply chain risks, such as strikes or lockouts, loss of or damage to equipment or its components while in transit or storage, natural disasters, contagious diseases that prevent free circulation, or war, may limit the supply of products and/or equipment used in our operations and facilities. Further, the imposition of the Universalization Targets for water supply and sanitary sewage set out in the New Legal Framework for Basic Sanitation may adversely affect the availability of third party services and the supple or products and equipment as the entire sanitation industry is looking to comply with these targets.
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In some cases, there are only a few suppliers for products we use, such as chlorine, sodium hypochlorite, ferric chloride, and fluosilicic acid. There are also highly specialized suppliers for information systems platforms that we use in our commercial, financial and administrative processes.
If any supplier discontinues the production or sale of its products and services, we may not be able to purchase these products and services from other suppliers for the same price or on the same terms. In this case, the provision of our services or our ability to maintain our commercial, financial and administrative processes may be significantly jeopardized, which could adversely impact our financial condition and results of operations. Additionally, the Universalization Targets for sanitation could lead to a shortage of raw materials and affect the capacity of current hydrometer suppliers to meet our future demand.
Risks Relating to Our Clients
We are owed some substantial unpaid debts. We cannot assure you as to when or whether we will be paid.
Historically, the State of São Paulo and some State entities have delayed payment of substantial amounts related to water and sewage services owed to us. As of December 31, 2023, the State of São Paulo owed us R$120.4 million for water and sewage services. Additionally, the State of São Paulo 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 of São Paulo is required to reimburse us.
With respect to payment of pensions on behalf of the State of São Paulo, we had a contested credit of R$1.5 billion as of December 31, 2023 recorded in the line item “disputed amount.” We do not record this contested amount as a reimbursement credit for actuarial liability due to the uncertainty of payment by the State of São Paulo, considering that the amount is under judicial discussion in a civil lawsuit filed on November 9, 2010 against the State of São Paulo. We also had an uncontested credit of R$1.0 billion which is recorded as related-party receivables, recorded in the line item “undisputed amount.” For further information, see Note 11(a) to our 2023 Consolidated Financial Statements.
In addition, as of December 31, 2023, we recorded a provision for an actuarial liability of R$2.1 billion with respect to future supplemental pension payments for which the State of São Paulo does not accept responsibility. For further information, see Note 11(v) to our 2023 Consolidated Financial Statements.
In addition, certain municipalities and other government entities also owe us payments. We cannot assure you when or if the State of São Paulo and such municipalities will pay the contested credits, which are still under discussion, and the remaining overdue amounts they owe us. The amounts owed to us by the State of São Paulo, municipalities and other government entities for water and sewage services and reimbursements for pensions paid may increase in the future, given that we are currently making some payments on behalf of the State of São Paulo. For further information, see “Item 7.B. Related Party Transactions—Agreements with the State of São Paulo.”
Risks Relating to Our Management
We depend on the technical qualifications of the members of our management, and we cannot guarantee that we will be able to maintain them or replace them with suitable individuals.
Part of the success of our operations and the implementation of our strategy depends on the knowledge, skills and efforts of our management and certain key employees. If the members of our management or key employees choose to no longer participate in the management of our business and/or resign, we may not be able to find skilled professionals to replace them. The New Legal Framework for Basic Sanitation established that by 2033 the Universalization Targets must be met. The increase in companies operating in our industry as a result of the New Legal Framework for Basic Sanitation, may lead members of our management or other professionals to leave us. The loss of members of management and key employees, as well as the difficulty in hiring professionals with similar expertise and experience could have a negative effect on our results of operations, financial condition and our reputation.
Risks Relating to the Regulatory Environment
Pursuant to the New Legal Framework for Basic Sanitation, ANA will be responsible for issuing reference standards. Any non-compliance will prevent municipalities or operators from accessing financings and public resources managed or operated by the Brazilian government.
According to Federal Law No. 11,445/2007 and Federal Law No. 9,984/2000, both modified by the New Legal Framework for Basic Sanitation on Federal Law No. 14,026/2020, ANA can issue reference standards (guidelines) for how subnational regulatory agencies should regulate certain topics in the sector. Consequently, ANA’s reference standards can apply to the basic sanitation sector nationwide, setting the guidelines for regulation and supervision by the regulatory entities at the state, municipal, and district levels, and ensuring regulatory uniformity in the sector and legal certainty for the provision and regulation of the service.
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Nevertheless, the application of the reference standards is not mandatory a priori. The New Legal Framework for Basic Sanitation provided that the access to financing and public resources managed or operated by the Brazilian government depends on compliance with the reference standards, by the sanitation service titleholders, service providers, and the subnational regulatory agencies, such as ARSESP. Accordingly, there is an incentive for adherence to these reference standards.
Moreover, Federal Decree No. 11,468/2023 created the National Secretariat for Environmental Sanitation, linked to the Ministry of Cities, with several competences, including: (i) coordination of the implementation of the Federal Basic Sanitation Policy in Brazil; (ii) proposition of national guidelines for financing the sanitation sector; and (iii) definition of guidelines for the preparation of reference standards.