Light SA Credit Report – Don’t turn off the switch
10th May 2023
Light SA is a Brazilian electric utility company, operating mainly in the state of Rio De Janeiro. Its subsidiaries include Light Energia (generation), Light SESA (distribution, operating a power grid and commercialization of energy to the captive market) and Light COM (trading of energy in the open market).
Light is facing the possibility of Recuperação Judicial, Brazil’s bankruptcy protection process. This is mostly due to the fact that its concession expires in 2026, and the possibility of renewal is in doubt. One of the main issues is a performance clause dealing with grid-loss restriction, which is crucial for renewal. As we will describe, Light’s two largest fundamental problems are not easy to fix, and bringing in a new concessionaire would do nothing to immediately deal with these issues without the political will to work towards a solution.
The Brazilian energy sector has a particular problem with illegal connections known as gatos, especially in the state of Rio de Janeiro. It is a common practice in the slums, in which illegal connections are installed on the grid and managed by gangs charging fixed rates to the residents in place of legal providers such as Light.
This presents a difficult challenge, and gang members were reported to have attacked Light employees to keep them from monitoring these illegal connections and going so far as to commit murder. The vandalization of measuring instruments likely created inaccuracies on billings, causing disconnections and other problems for customers, who have been taking legal action against the company.
For these reasons, losses were 28.5% in 4Q22, an increase from 26.4% in 4Q21. This was significantly above the 21.5% regulatory threshold established by Brazilian electricity regulator Aneel, making the renewal of Light’s concession contract less justifiable. (see Figure 1&2)
It also seems that Light’s operations suffered irreparable damage during the COVID-19 pandemic. When compared with 2019, Light’s grid load for the full year fell 8%, and billed electricity fell 16%. During the pandemic, Light was not allowed to perform disconnections, and grid maintenance was limited, too.
It is very possible that the no-disconnection policy created a moral hazard effect, with clients choosing not to pay. As disconnections resumed, gang leaders would then take it into their hands to ensure the continuity of the service in their communities, creating illegal connections and preventing Light’s personnel from performing their duties in the region.
Illegal connections also make collections in certain regions extremely dangerous, and register clocks are easily vandalized. For this reason, Light’s revenue is highly jeopardized. This was observed during the quarter, as the irregularity of registering consumption generated improper disconnections and overbilling that requires customer refunds.
In 4Q22, Light’s consolidated net operating revenue decreased 31% YoY, to BRL 2.6bn. The main driver was the distribution operation, responsible for more than 80% of the consolidated operating net revenue.
Electricity utility companies’ KPI for productivity is known as “grid load.” The amount that the company is able to monetize is “billed electricity,” which subtracts grid usage (energy distributed to non-paying clients, streetlights and utilities) and grid losses from the grid load.
In 4Q22, grid load increased 3.6% YoY, to 8,629.5 GWh, however, billed electricity decreased 2.9% YoY, to 3,652 GWh. This was mostly due to grid losses increasing 11.7%YoY, to 2,456 GWh, or 28.5% of the total grid load.
In terms of average tariffs, Light had to reimburse customers for billing regularization (discounts on subsequent bills). Average tariffs were also affected by the lack of triggering of variable tariffs, due to improvements in hydrological conditions, and the reduction in the Component Variation offset Account (CVA), also related to the improvement of hydrological conditions.
Operating costs increased 61%, to BRL 5.2bn. Most of this increase, however, came from non-recurring expenses related to provisions, specifically an increase in provisioning for civil contingencies suits and an increase from Allowance for Doubtful Accounts (ADA).
During the last quarter, Light performed an analysis to assess collections processes and has taken steps to improve the method of measuring the expected losses and the necessary provisioning. As a result, the company had a BRL 854m addition to ADA by the end of the year.
Light has been facing an onslaught of civil lawsuits regarding (i) irregularities caused by illegal connections, (ii) improper cancelations of bills, (iii) accidents involving its grid and (iv) moral and material indemnities related to unlawful disconnections, irregularities on measuring equipment and dangerous voltage variations on the grid.
Companhia Siderurgica Nacional (CSN) sued Light in 2011, over interruptions in energy supply, and this matter still remains to be resolved. Beyond that, Light has many labor and fiscal lawsuits. In total, the company has BRL 12m in lawsuit contingencies, a BRL 1.7m increase from 4Q21.
As a result of increasing operating costs, Light’s EBITDA fell to negative BRL 2.9bn, from BRL 646m in 4Q21, mostly due to the non-recurring events. The non-recurring effects also caused 2022 EBTIDA to be negative BRL 1.2bn.
Adjusting for the non-recurring events, Light estimates that EBITDA was negative BRL 57.1m and the FY EBITDA was BRL 1.6bn, down 12% YoY from FY 2021. (see figure 3)
Light’s gross debt is BRL 10.7bn, a 4% YoY decrease, driven mostly by a 14% YoY decrease in loans. However, once again due to the expenses related to the provisioning and refunds to customers, cash and availabilities decreased 42% YoY, to BRL 2.1bn. As a result, net debt increased 23% YoY, to BRL 9bn.
With the net debt increase, we calculated that net leverage increased from 4.0x in 4Q21 to 5.6x. Light has financial covenants limiting net leverage to 3.5x. It claims to be in compliance with this covenant, however, using the company’s figures we were unable to reach the 3.3x it claims. Nevertheless, since the company “met” the leverage covenant condition, it continues to be able to avoid debt.
Debtwire has reported that Light could be close to initiating bankruptcy protection proceedings. The Light SA holding company is the guarantor of almost all of the debt of the subsidiaries. (see Figure 4)
Light also has covenants attached to its credit rating, which it was not able to meet, triggering a domestic bondholder meeting to consider acceleration. If creditors decided to accelerate the debt, it could be the end for Light. On April 11, however, the company filed for a precautionary measure prohibiting creditors from commencing or continuing individual lawsuits to accelerate debt, in order to allow time for mediation. The court accepted Light’s request, for a period of 30 days with the possibility of extending it for another 30 days.
Shareholders have recently taken action against the remuneration of management, specifically the “unreasonable” decision of paying management bonuses amid Light’s current situation.
In addition to covenants, the Light SESA distribution subsidiary has financial sustainability clauses attached to its concession contract. Aneel has not yet conducted its audit of the financial indicators for 2022. Even if the indicators are not up to par, cancelation of the contract is unlikely. However, the renewal of the contract is further hindered.
As of April 27, board members were summoned by Aneel to discuss the next steps. Aneel director Sandoval Feitosa spoke to news outlets suggesting that a Light bankruptcy would bring about “unspeakable chaos,” suggesting that Aneel would be willing to work closely with the company to resolve the situation.
Conclusion: There is no easy solution
As we have described, the most critical issues – grid loss and collection difficulty – are not ones that a new concessionaire could easily solve without improved political will. To enter favela neighborhoods to dismantle illegal connections and confront the gangs, the police must act, which requires the political establishment to realize there is a problem. Any new concessionaire will face the same challenges Light faces today.
As Aneel is a federal regulator, and Brazilian President Luis Inacio Lula da Silva favors leftist policies, it could always opt for the “Argentina solution,” that is, not renewing the concession and having a federal or state-level entity take charge and subsidize users. However, we all know how those measures end. It is also possible that all this is a show to pressure Light into paying higher concession fees for the renewal.
It is hard to imagine how Light or any other private company can overcome the challenges without political consent, and the realization that probably most of the issues Light faces are not necessarily the company’s fault. However, Light’s future heavily depends on whether it can renew the Rio de Janeiro concession and for that, they’ll need to come up with a creative solution.