Mexico: Project Finance

Typically, sponsors incorporate a special purpose vehicle for the development of the project in one of the forms for business organizations explained in item 2 below (e.g., a stock company or limited liability company of variable capital). Under Mexican law, a minimum of two shareholders is required for incorporating the project company.

The project company is a distinct legal entity, separate from the project sponsors with the specific corporate purpose to own, develop and operate the project.

The control of the SPV is exercised by the sponsors in accordance with their shareholding percentage (it is common practice for project lenders to negotiate “step in rights” pursuant to which, upon an event of default under the financing documents, control of the project company may shift to the project lenders).

One of the main reasons for incorporating a special purpose vehicle for the development of the project is to protect: (i) the sponsors from the project’s liability (i.e., “non recourse” project); (ii) clients of the project companies (such as federal or state governmental entities) from liabilities other than those incurred for the development of the project, and (iii) the lenders, as they will control that the loan be applied towards the project costs and the project cashflow be applied towards the repayment of the debt, without compromising the source of payment with liabilities incurred for affairs different from the project itself.

For the reasons explain above, regardless of the industry sector, infrastructure projects in Mexico are usually performed by a special purpose vehicle incorporated by the sponsors.

A. Introduction

Mexico has all the usual forms of business organizations, including the stock company (sociedad anónima (S.A.)) and the limited liability company (sociedad de responsabilidad limitada (S.R.L.)), both of which can be formed as variable capital (capital variable (C.V.)) entities regulated by the General Law of Commercial Companies (Ley General de Sociedades Mercantiles, “LGSM”).

The Sociedad Anónima de Capital Variable (“S.A. de C.V.”) (stock corporation) is the most common type of legal entity used by national and foreign investors, and is the most similar form to a U.S. corporation. As for any other corporation, liabilities of shareholders are limited to the amount of their contributions to the corporate capital of the company. There is no minimum fixed capital required to incorporate the company. Equity interests in the company shall be represented by stock issued by the company. Stock is of free transferability, unless the by-laws provide limitations, for example: (i) the previous authorization of the board of directors or (ii) rights of first refusal are provided.

B. Protection of Minority Shareholders

The LGSM and the Securities Market Law (Ley del Mercado de Valores) set out the following thresholds for protection of minority shareholders in the different forms of stock corporations (e.g., S.A. de C.V., S.A.P.I. de C.V., S.A.P.I.B. de C.V. and S.A.B. (publicly traded companies)):

A simple majority of shareholders has control, unless bylaws establish a larger majority. Ordinary general meetings may be installed with a quorum of at least 50% of the company’s capital (although in a second call, such meeting may be installed with any number of shares present). For extraordinary meetings (that is, those undertaking major changes in the corporation), 75% of capital is necessary for a quorum on first call and 50% thereafter unless otherwise established in the bylaws of the company (in order for resolutions at an extraordinary shareholders meeting to be valid, such resolutions shall be voted by at least 50% of the outstanding capital company (irrespective of a first or subsequent call)).

In terms of the LGSM, the matters that shall be approved by an extraordinary shareholders meeting are: (i) extension of the company term; (ii) early dissolution of the company; (iii) increase or decrease the fixed capital stock; (iv) change of the company’s corporate purpose; (v) change the company’s nationality; (vi) transformation of the company; (vii) merger with another company; (viii) issuance of privileged shares; (ix) amortization of the company’s own shares; (x) issuance of bonds; (xi) any amendment to the company’s bylaws and (xii) any other matters that the law or the company’s bylaws require to be approved by a special quorum.

C. Fiduciary Duties

For privately held companies, the fiduciary duties of directors are governed by the LGSM and the company’s bylaws. Such fiduciary duties include: (i) duty to act diligently in the best interest of the company; (ii) abstain from any decision in which the director may have an interest opposed to the corporation; (iii) keep confidential the information and matters that come to their knowledge due to their charge, when such information or matters are not public, unless the information is requested by judicial or administrative authorities; (iv) the existence and maintenance of the accounting, control, registry, archive or information systems mandated by the law; (v) the exact fulfilment of the resolutions adopted by the shareholders’ meetings, and (vi) inform the statutory auditor of any irregular acts performed by the former directors.

For publicly held companies, the LMV sets out that the members of the board have a duty of care and a duty of loyalty before the corporations.

In the first place, the duty of care demands that the directors perform their responsibilities diligently, acting with good faith and in the best interest of the corporation and the subsidiaries controlled by it.

The board members of a publicly held company will fail to perform their duty of care, and will be subject to civil liability, whenever an economic damage is caused to the corporation because of any of the following: (i) they abstain from attending, without justified cause, to a board’s meeting and the meeting is unable to be held due to its absence; (ii) they fail to reveal relevant information that is of their knowledge and that is necessary for the board’s adequate decision making, and (iii) they fail to perform other the duties set out by the law or the bylaws.

Besides, board members have a duty of loyalty before the corporation. The duty of loyalty requires board members to: (i) keep confidential the private information and matters that come to their knowledge due to their charge; (ii) abstain from participating in a decision in which they have a conflict of interest, and (iii) inform the audit committee and the external auditor of any irregular acts that they have knowledge of.

The directors of a publicly held company will fail to perform their duty of loyalty, and will be subject to civil liability, whenever an economic damage is caused to the corporation because of, among others, one of the following: (i) when, without a legitimate cause, they obtain financial benefits for themselves or third parties, including a shareholder or group of shareholders; (ii) participate in the board meetings with a conflict of interest; (iii) fail to review any conflict of interest in the board meetings they participate; (iv) they benefit a specific shareholder or group of shareholders in detriment of the rest; (v) they make improper use of the relevant information that is not of the public knowledge, and (vi) they benefit from a business opportunity belonging to the corporation without a waiver from the board of directors.

D. Corporate Controls in the PPP Law

The Public-Private Partnership Law (Ley de Asociaciones Público Privadas, “PPP Law”) provides the following corporate controls for project companies: (i) the corporate purpose of the corporation shall be, exclusively, the performance of all the acts necessary to develop the specific project; (ii) the project company shares may only be transferred or encumbered prior authorization from the contracting entity, and (iii) the contracting entity has the right to intervene in the preparation, execution of the work, provision of the services or in any other stage of the project when the provider breaches its obligations under the project company and puts in danger the development of it.

E. Mexican Financial Information Standards

Finally, Mexican companies are required to issue their financial statements according to the Mexican Financial Information Standards (Normas de Infromación Financiera) which, among others, requires the financial statements to be issued in Spanish.

Typically, sponsors provide credit support to the project company either through debt (i.e. loans subordinated to the debt financed with banks or other financial entities) or equity (i.e., capital contributions to the project company, usually supported by a standby letter of credit for the benefit of the contracting entity or the lenders).  Seldomly, sponsors provide other type of guarantees, such as corporate guarantees pursuant to which the lenders may have recourse against the sponsors in an event of default (whenever the risk of project unsuccessful completion is high, lenders may sort to these corporate guarantees in order to enhance the credit worthiness of the project).

On the other hand, some Mexican development banks such as the National Bank for Public Works and Services (Banco Nacional de Obras y Servicios Públicos; BANOBRAS) and the National Financial Institution (Nacional Financiera; NAFIN) may provide other sort of financial guarantees (such as timely payment guarantees or liquidity credit lines).

Besides, the National Infrastructure Fund (Fondo Nacional de Infraestructura; FONADIN) a public trust created by BANOBRAS may enhance the financial viability of a project through non-recoverable funds (apoyos no recuperables) or deeply subordinated loans.

Finally, local and municipal entities typically assign federal transfers (participaciones federales) as the main or alternative source of payment of infrastructure projects. Federal transfers are a percentage of federal tax revenues that are allocated to the states and municipalities as unconditional transfers based on different criteria, including demographic, tax and compensatory criteria. To ensure that the project receive the funds from federal transfers, states and municipalities irrevocably assign their rights to receive such transfers to the project’s trust agreement and notify the federal authority that the relevant transfers must be made to the trust agreement accounts.

There are two main forms of security interests used in project finance transactions, one (and the most common) are in rem guarantees (i.e., guarantees in which a lien is created over certain goods or assets, such as a pledge, a guarantee trust or a mortgage) and the other are personal guarantees (whereby a third party acts as guarantor, such as stand by letter of credit or other corporate guarantees).

The most common in rem guarantees are:

• Non-possessory pledge. The non-possessory pledge is a security granted over specifically designated assets or over a pool of assets (such as a floating lien). One of the main characteristics of this security is that the assets are not required to be delivered to the creditor and the pledgor is entitled to use them during the normal course of its business. Most of the assets (such as equipment, machinery, inventory, etc.) or rights (such as contractual rights or collection rights) of a project company may be collateralized under this type of pledge.
• Security Trust. Although technically speaking is not an in rem guarantee (i.e., Mexican Bankruptcy Law only recognizes as in rem guarantees the pledge and the mortgage), pursuant to the security trust, the settlor will transfer to a Trustee (usually, a bank), ownership of the assets identified in the trust agreement that will be held as security for the performance of the settlor’s obligations. Generally, all project assets (including the shares of the project company) that are capable of being transferred will be assigned to the security trust. For those assets that are not capable of being assigned, the project company could grant a nonpossessory pledge.
• Pledge over Shares. As described above, all project assets capable of being transferred will be assigned to the security trust agreement. This applies also for the project company shares – they are typically transferred to the security trust agreement except for one share (because under the General Law of Commercial Companies, a corporation must have at least two shareholders). The share or shares not transferred to the security trust agreement are usually pledged in favor of the collateral agent. The corporate and economic rights are usually exercised by the shareholders (e.g., the sponsors), although it is market practice for such shareholders to grant a power of attorney to the collateral agent, pursuant to which, upon an event of default, the collateral agent shall be allowed to call a shareholders meeting and vote such shares in order to try to cure the default (i.e., step-in rights).
• Mortgage. Mortgages are not common in project finance because lenders typically prefer real estate property to be transferred to the security trust agreement. However, this type of security is granted over real estate property when it is impossible or impractical to transfer such real estate property to the security trust agreement. A mortgage is an in-rem guarantee granted over assets that are not delivered to the to the creditor but give the creditor, in case of a breach of the secured obligation, the right to be paid with the value of the assets, with the preference set out by the law. More than one mortgage can be granted over the same asset and the priority for foreclosure will be determined by the moment the securities were registered before the Public Registry of Property.

The most common personal guarantees are:

• Standby Letter of Credit. Standby letters of credit are typically granted by the sponsors or the SPV to secure the contribution of equity to the project.
• Corporate Guarantees. An project company affiliate or shareholder may also guarantee the fulfilment of the project company’s obligation under the project agreement or financing documents. Project sponsors may also act as joint obligors of the SPV under the project agreement or financing documents. The main purpose of a corporate guarantee is that the contracting entity or lenders have a recourse against the sponsors in an event of default.
• Bonds. A bond is a form of personal guarantee in which an authorized institution agrees to pay a sum of money to secure the performance of an obligation. Two of the most common bonds in project finance are: (i) the performance guaranty bond, to guarantee the fulfilment of the SPV’s obligations under the project agreement and (ii) the hidden defects bond to guarantee that any hidden defects found in the works after their delivery will be covered by the project company.

The in-rem guarantees described above are perfected as follows:

• Non-possessory pledge. A non-possessory pledge shall be executed in writing and the parties thereto must ratify their signatures before a public notary. Besides, the lien must be registered before the Sole Registry for Security Interests on Movable Assets (Registro Único de Garantías Mobiliarias).
• Security Trust. A security trust agreement shall be executed in writing and the parties thereto must ratify their signatures before a public notary. The security trust shall be recorded: (i) for real estate property, in the Public Registry of Property of the place in which such property is located and (ii) for personal property, in the Sole Registry for Security Interests on Movable Assets (Registro Único de Garantías Mobiliarias). If any collection rights are assigned to the trust agreement, the debtor must be notified of such assignment (and, in certain projects, such as concessions or PPPs, a prior written consent from the government is required prior to such assignment). Finally, the assignment of shares requires their endorsement in favor of the trustee and the corresponding registration in the shares’ registry ledger of the project company.
• Pledge over Shares. The share pledge agreement shall be executed in writing and the parties thereto must ratify their signatures before a public notary. This security shall be recorded in the Sole Registry for Security Interests on Movable Assets (Registro Único de Garantías Mobiliarias). In certain projects, such as concessions or PPPs, a prior written consent from the government is required prior to the granting of this security. Also, the shares must be endorsed in guarantee in favor of the collateral agent and the security must be registered in the shares’ registry ledger of the project company. Finally, the power of attorney granted by the shareholders in connection with the step-in rights mentioned in item 4 above, must be granted in a public deed before a public notary.
• Mortgage. A mortgage must be granted in writing before a public notary and be recorded in the Public Registry of Property of the place where the corresponding real estate property is located.

A. Pre-Insolvency

Security Trust.

The parties to a security trust agreement may agree to a non-judicial enforcement proceeding pursuant to which the trustee will sell the trust assets to satisfy the secured obligations.

The non-judicial procedure shall meet the minimum standards set out by article 403 of the General Law on Negotiable Instruments and Credit Operations (Ley General de Títulos y Operaciones de Crédito). These minimum standards are, among others, that the beneficiary of the trust (usually, the lenders) shall deliver written notice to the trustee stating that an event of default has occurred under the financing documents and the settlor must have the right to oppose the foreclosure by evidencing the fulfilment of the relevant obligation or the extension of the corresponding term.

If there is no agreement among the parties regarding the nonjudicial foreclosure procedure, then, the judicial foreclosure procedure will follow mainly the same rules as the judicial foreclosure procedure for the non-possessory pledge described below.

Non-possessory pledge.

The parties to a non-possessory pledge may also agree to a non-judicial foreclosure procedure that begins with the formal requirement made by the pledgee requesting delivery by the pledgor of the pledge assets. After the delivery of the pledged assets, the pledgor may proceed with the sale of those assets at the price determined by an appraiser agreed by both parties. The pledgor will have the right to oppose the foreclosure by evidencing the fulfilment of the relevant obligation or the extension of the corresponding term.

In the judicial proceeding, if the pledgor is found to be liable to pay the secured obligations, the court will carry out, through an appraiser, a valuation of the assets subject to the pledge. If the value of the assets is greater than the amounts due, the court will carry out a public sale, with a progressive reduction in the price of those assets until definitively sold and any remaining amounts will be delivered to the grantor.

If the value of the assets is equal or less than the due amounts, the collateral agent will receive such assets in payment of the due amounts. Then, the collateral agent will have the rights to collect any amounts not covered by the pledged assets it received.

Pledge Over Shares.

The collateral agent will have the right to request authorization from the competent courts to sell the pledged shares in case of an event of default.

The competent courts will provide the pledgor a copy of such request and grant him the right to oppose any exceptions and defences to prove its inadmissibility within the following 15 (fifteen) business days. A decision from the competent court will be issued 10 (ten) business days after the pledgor offered its defences and exceptions.

In case of urgency, the competent court will be allowed to authorize the sale of the pledged assets without notification to the pledgor.

The collateral agent will keep the product of the sale in pledge, in replacement of the pledged share; a new authorization will be required from the competent courts for the collateral agent to receive the product of the sale as payment of the secured obligations.

Mortgage.

Foreclosure of a mortgage requires a judicial procedure to be followed before the courts of the jurisdiction where the real estate property is located.

In the first place, the competent courts will issue a mortgage proceeding statement (cédula hipotecaria), to be recorded in the corresponding Public Registry of Property with the purpose of preventing any attachment or sale of the corresponding property during the proceeding.

The foreclosure procedure begins with an appraisal of the real estate property value to be performed by an independent appraiser. Then, the property is sold in a public bidding and the proceeds are applied towards the payment of the secured obligation.

B. Post-Insolvency/Bankruptcy

Once a judgment that declares the debtor bankrupt (en concurso) is passed, attachment and foreclosure on the debtor’s assets are stayed during the reorganization stage (conciliación), except in the case of privileged labor-related claims. Exceptionally, secured creditors may begin or continue foreclosing on assets that, in the opinion of the judge and the trustee (conciliador), are not essential for the ordinary course of debtor’s business. Once the bankruptcy proceedings convert to liquidation (quiebra), the stay of execution is automatically lifted.

Assets that do not belong to the debtor (eg, assets placed in trust (fideicomiso)) are not subject to the stay of execution order. However, it is not uncommon for debtors to petition the bankruptcy courts to issue interim orders to prevent foreclosure of assets in trust or other bankruptcy remote vehicles. Those orders are enforced until vacated. Experience on vacating those orders has been inconsistent.

It is important to mention that, depending on the nature of the assets over which the security is granted, authorization from the contracting entity may be required for its perfection. This requirement is typically included in the public-private partnership agreement or concessions.

The same will apply to the transfer of shares from the project company- typically, it would require the authorization from the contracting entity. This shall be considered when executing a security interest granted over the project company shares. However, public-private partnership agreements usually provide an exception to this authorization in favor of the project lenders.

Please note that there are certain type of projects in which the rights under a concession cannot be assigned to a third party (to a security trust agreement, for example) unless certain time frame has elapsed (i.e., 3 years from the award, in the case of road concessions).

The main risks associated to project financing in Mexico are the following:

Act of God or Force Majeure.  Acts of God and Force Majeure are typically included in contracts related to infrastructure projects in Mexico.  The type of force majeure cause will depend on the type of asset.

Delay in the Delivery of the Right of Way. The most recurrent risk faced by infrastructure projects in Mexico is the inability to secure rights of way in a timely and adequate manner.  This risk is crucial when financing roads, pipelines, rail lines, aqueducts or other similar assets.

Many infrastructure projects in Mexico require the contracting entity to deliver the Right of Way (e.g., toll roads and trains). However, not always the contracting entity delivers the Right of Way on time. The main challenge that a contracting entity may face in connection with the delivery of the Right of Way is acquiring the corresponding area from third parties (including other governmental entities) (i.e., there is a likelihood that the affected parties will challenge the valuation pursuant to which the land will be acquired or expropriated) and the filing of amparo lawsuits from persons or groups that claim to have a right over the land or oppose the project for other reasons, such as environmental allegations.

The delay in the delivery of the Right of Way may, in turn, delay the construction of the project, as well as the commencement operation date, consequently increasing the costs of the project. Therefore, the corresponding public-private partnership agreement must include a compensation mechanism in favor of the investment provider in case there is a delay in the delivery of the Right of Way. For instance, as a measure of compensation, the investment provider may be entitled to an extension of the public-private partnership agreement equal to the term of the delay.

Fluctuation of the Interest Rates. The fluctuation in the interest rates may affect the investment provider’s capability of fulfilling its financial obligations. Therefore, the investment provider shall enter into interest rate hedge agreements to cover any financial commitments executed with a variable rate.

Environmental Liability. The Federal Law on Environmental Liability sets out the obligation, in charge of persons which acts, or omissions cause damages to the environment, of repairing such damages and, if the repair is impossible, to compensate the damages. Advisors to lenders should be diligent in understanding the type of project to be developed and the potential environmental risks to be faced, in order to better mitigate such risks in the financing agreements.

Delay in the obtention of the permits and licenses. Infrastructure projects in Mexico require several permits, authorizations and licenses for its construction and operation. In general terms, the applicable laws include a maximum term for the issuance of the permit or license once the requirements by the applicant have been met. However, it is not possible to guarantee that the competent authorities will issue the permits or licenses within the term set out by the law. Failure to obtain the permits and licenses on time may delay the project construction phase, its commercial operation date and, consequently, increase the project costs.

Political risk. Political risk is usually borne by the private party. However, private parties are usually entitled to request the reimbursement of investments and non-recoverable expenses in the event of an expropriation or other unilateral measures for the early termination of the agreement that the government party enforces to assume control of the project assets (for instance, early termination due to causes of general interest), to the extent that the enforcement of such measures is not based on a breach by the private party.

The financing or project documents shall be executed in the form set out by the applicable law to be valid and admissible evidence in a court. If the financing or project documents lack the form required by the applicable law, the parties have the possibility to demonstrate, by other kind of evidence, that an agreement was executed and is in place (i.e., communications among the parties, witnesses, execution of the works, etc.).

In general terms, the law requires for project and financing documents to be executed in writing. Besides, the parties to the financing documents must acknowledge their signatures before a notary public for the documents to be valid and an executive document.

Also, the security documents must be recorded before the following registries to be effective and valid against third parties: (i) for personal property, before the Sole Registry for Security Interests on Movable Assets (Registro Único de Garantías Mobiliarias); (ii) for real estate property, before the Public Registry of Property of the place in which such property is located, and (iii) for shares, in the shares’ registry ledger of the corporation that issued such shares.

Project documents including long-term payment obligations in charge of governmental authorities must be registered in: (i) the annual budget of the corresponding entity and (ii) in the Sole Registry for Financing and Obligations (Registro Público Único de Financiamientos y Obligaciones) of the Ministry of Finance if the obligation belongs to a local or municipal entities.

No restrictions, controls, fees or taxes are charged or imposed on foreign currency investments under Mexican law. Likewise, there are no restrictions or controls applicable to remittances from Mexican project companies. However, it is important to note that from a tax perspective, such remittances or payments may be subject to withholding taxes.

Regarding possible export restrictions that may be applicable to the natural resources sectors, it is important to point out that it would depend on the specific product to be exported. In this regard, it will first be necessary to confirm the specific tariff classification (HTS Code) of the product to be exported, for which purpose it must be taken into account that there is a list of goods whose export is prohibited. Also, regarding natural resources such as petroleum and natural gas, specific regulations (such as permits and authorizations) apply, while they are not restrictions as such, the timeframe and paperwork to obtain such permits or licenses could be considered as restrictive.

Similarly, with respect to royalties, from a foreign trade perspective, no restrictions, controls, fees or taxes are charged or imposed under Mexican law when referring to the export of goods. However, it is important to note that from a tax perspective, such payments may be subject to withholding taxes.

Regarding taxes, current regulations exempt all exports from paying General Export Tax (for its acronym in Spanish “IGE”), while specific preferential rates for VAT apply when exporting goods for sale (0% instead of the general 16% rate), as long as specific requirements are met.

Finally, no general restrictions or prohibitions apply for the exportation of goods, except those applicable to the general recommendations of the General Counsel of the UN (prohibition to trade with listed countries). However, depending on the specific classification of the exported goods (HTS Code), other possible non-tariff restriction or regulation could apply, such as Mexican official standards, quotas, permits or notices, among others, which, if applicable, must be complied with prior to the presentation of the merchandise for customs clearance.

Mexico is still lacking an official taxonomy to define what substantial concepts, metrics and disclosure obligations should be considered as part of a comprehensive ESG body of laws or regulations. As of this date, there is no law or regulations defining what ESG is, or what are the associated metrics or disclosure requirements thereunder; however, some of the substantive issues that are considered part of ESG factors are scattered throughout the entire Mexican legal framework, such as environmental, carbon, water and air emissions, which are addressed in environmental legislation, or the prohibition of forced and child labor, the right to sindicalize and general human rights in the workplace, which are covered in labor legislation. Likewise, corporate governance structure, rights of shareholders, the incorporation of auditing committees and accountability thereof, are foreseen in commercial and societary legislation.

In sum, the only specific ESG norm existing in Mexico, was a general order published on September 18, 2019, by CONSAR -the authority governing Mexican pension funds (Afores)-, whereby pension funds are obliged to include ESG factors in the criteria for risk and credit assessment of investments. However, these provisions are silent on what specific ESG standards, factors and metrics should be adopted by the Afores, which leaves plenty of leeway to comply.

In January 2012, the Public-Private Partnership Law (Ley de Asociaciones Público Privadas, “PPP Law”) and its regulations were enacted in Mexico (this law regulated long term services contracts that were previously implemented under different laws, regulations and guidelines).

The PPP Law defines the public-private partnership projects as those performed under any scheme to establish a long-term contractual relationship among instances of the public sector and the private sector, for the provision of services to the public sector, wholesalers, intermediaries or to the end user and in which infrastructure provided, totally or partially, by the private sector is used with purposes of increasing the social welfare and the investment levels in the country.

The main purpose of the PPP Law and its regulations was to formalize a group of practices that the market in Mexico adopted for the financing of projects.

Indeed, some of the key figures introduced by the PPP Law are the possibility of:

1. agreeing step-in rights in favor of the project lenders;
2. assigning all the project contract rights (previous regulations only allowed assignment of collection rights);
3. amending the PPP agreements with more flexibility, including investment provider’s right to request the revision of the agreement in the event of unforeseen causes that substantially alter the project costs or reduces the investment provider’s benefits;
4. agreeing conventional penalties against the contracting entity (not only conventional penalties against the investment provider), and
5. the submission of unsolicited proposals from private parties with the benefit, to such private party, of up to a 10% premium in the evaluation of its bid under the criteria set out by the corresponding bidding guidelines.

The PPP Law and its regulations are general and not applicable to a specific industry or sector.

Yes, foreign judgements or arbitration awards shall be upheld by Mexican courts, as long as the following requirements are met:

1. the satisfaction of the formalities of rogatory letters (e.g. authentic copies of the judgement and the proceedings, official translations, and that the requesting party has provided an address for notifications in the place where the enforcing court is);
2. that the foreign court which issued the judgment had jurisdiction;
3. that the procedure is not the result of actions in rem;
4. that the defendant was duly served and due process was guaranteed;
5. that the judgment is final with no pending judicial recourse;
6. that there are no lis pendens proceedings in Mexico;
7. that the judgment to be enforced is not contrary to public order;
8. that the judgment satisfies the requirements to be considered authentic, and
9. evidence of reciprocity, under which the court has discretion to deny enforcement of the judgment if, in the issuing country, foreign judgments of that nature are not enforced.

On the other hand, in accordance with Mexican law, an arbitral award, regardless of the country in which it was rendered, shall be recognised as binding and, upon application in writing to the competent court, shall be enforced in accordance with the provisions set forth in the Mexican Code of Commerce.

Submission to a foreign jurisdiction is permissible and enforceable under Mexican law. However, the Federal Procedural Code contemplates several subject matters over which Mexican courts have exclusive jurisdiction including, among others: (i) controversies dealing with land, water, underground, air space, continental shelf, rights under exploration and exploitation concessions and in rem rights; (ii) natural resources within Mexico’s exclusive economic zone or related to any sovereign right; (iii) acts of authority; (iv) the internal regime of Mexican diplomatic representations; and (v) any other that may be contemplated under different statutory provisions.

In relation to state immunity, Mexico ratified the UN Convention on Jurisdictional Immunities on 29 September 2015. Though it has not yet entered into force, it demonstrates Mexico’s international commitment towards a unified understanding of state immunity. Article 10 of the UN Convention clearly states that if a state engages in a commercial transaction with a foreign natural or juridical person and a dispute deriving from the commercial transaction falls within the jurisdiction of another state, the contracting state cannot invoke immunity from jurisdiction. Mexico has not made any reservations to this convention.

However, it is important to consider that under the General Law of National Property (Ley General de Bienes Nacionales), the property of governmental entities cannot be subject to seizure.

A. National Infrastructure Agreement

One of the main issues for project financing in Mexico is that the current Executive branch of the Federal Government has expressed its scepticism regarding public-private partnerships.  Rather than promoting the development of infrastructure projects through public-private partnerships or concessions (where the private sectors may finance such project in exchange for long term services contracts), the federal government has prioritized certain large specific projects (such as the Maya Train, the Dos Bocas Refinery or the Felipe Angeles Airport) which have been mainly structured as public works contracts financed with federal budgetary resources, which are not suitable for long term project financing.  Notwithstanding the challenging landscape for federal long term infrastructure projects, we still see activity in smaller infrastructure projects promoted by local states and municipalities.

B. Public Interest and National Security Infrastructure Projects

On November 22, 2021, the President of Mexico issued a decree that declares as a matter of public interest and national security the development of projects and works in charge of the Federal Government associated to certain sectors such as the communications, tourism, and railroads sector, as well as those that due to its object, characteristics, nature, complexity and magnitude, are considered as primary and/or strategic for the national development.

The Decree is comprised of three main provisions:

1. A catalogue of industries, activities and sectors considered of “public interest and national security”, namely: communications, telecommunications, customs, borders, hydraulic, hydric, environment, tourism, health, railways, trains, energy, ports, airports and those that due to its object, characteristics, nature, complexity and magnitude, are considered as primary and/or strategic for the national development.
2. The issuance of provisional authorizations (which would remain valid for a 12-month period) that may be required to start the execution of a specific project.
3. An instruction, to all Federal administrative authorities, to issue a provisional authorization within the term of 5 working days after the application has been filed, granting the Federal government the necessary rights to start the execution of projects deemed critical or strategic to national development. If the authority in question does not respond within the 5 days granted, the authorization will be understood as granted (afirmativa ficta).

It is important to mention that the legality of the decree is questionable. For instance, the Federal Antitrust Commission (Comisión Federal de Competencia Económica) stated that: (i) the Decree could create regulatory asymmetries by giving preferential treatments to works that are considered as public interest and national security, in detriment of the competition, and (ii) the categorization of projects as public interest and national security shall not be interpreted as a cause of exception to the celebration of public biddings within the acquisition and public works legal framework.

The main laws relating to the implementation of power projects for the energy transition are the Power Industry Law (Ley de la Industria Eléctrica) and the Energy Transition Law (Ley de Transición Energética). Consistent with the Mexican Constitution and the goals/commitments of the Government of Mexico under certain international treaties and agreements (for example, the Paris Agreement), the Energy Transition Law establishes a clean power generation target in Mexico of 35% by 2024.

The regulations arising from the Power Industry Law and the Energy Transition Law (including, the Market Rules) were designed on the basis on such clean energy target. As a result, multiple clean power projects were developed, constructed and commissioned by private companies across Mexico, especially, in the context of the so-called long-term auctions for clean power sponsored by the Mexican grid/system operator (the National Center of Energy Control, CENACE) between 2015 and 2018.

In 2019, the current Federal Government decided to change the approach vis-à-vis energy transition by focusing on Mexico’s main public (government-owned) utility – Comisión Federal de Electricidad (CFE). CFE expects to build new clean power projects, particularly, a multi-phase solar photovoltaic facility in the State of Sonora, Mexico, for purposes of contributing to the achievement of the country’s clean energy goals.

Despite the fact that development of new utility-scale clean power projects by private entities in Mexico has significantly decreased as a consequence of the Federal Government’s change of approach from a public policy standpoint, some private companies have redirected its efforts and resources into the distributed generation space (distributed generation is power generation from facilities with an installed capacity below 0.5 MW that are connected to distribution circuits with a high concentration of load points). Distributed generation is also regulated under the framework of the Power Industry Law and the Energy Transition Law, including, certain rules issued and subject to oversight by the Mexican regulator (Comisión Reguladora de Energía, CRE) which provide the terms and conditions for the interconnection, generation and sale of power from distributed generation facilities in favor of domestic, commercial and industrial end-users. Overall, clean power distributed generation has contributed and continues to contribute to the energy transition in the country and does not seem to conflict with the current Administration’s view of the Mexican power industry because, as explained above, the Federal Government’s vision about the industry is now oriented towards favoring CFE’s generation fleet by limiting new and existing utility-scale projects of private power generators. Consequently, distributed generation is still expected to grow exponentially.

The following are the main Mexican tax considerations which have to be taken into account for a project financing:

1. Withholdings on interest:

The Mexican Income Tax Law (“MITL”) provides that there is Mexican source of income when the capital is placed or invested in Mexico or when the payor is a Mexican tax resident. In such cases, the Mexican tax resident should withhold the corresponding income tax to non-Mexican tax residents whenever the interest payment is due or paid. For these purposes, the MITL sets forth different withholding rates that range between 4.9% and 40%, depending on the nature of the loan and the features of the lender. In certain cases, the income tax may be exempt.

For instance, under the MITL, interest payments made to a bank, investment bank or non-bank bank should be subject to a 4.9% withholding tax rate; provided that certain conditions are met (e.g., the lender is a tax resident with a jurisdiction with which Mexico has an anti-double taxation tax treaty (“DT”), it meets the requirements to apply such DT, etc.).

In addition, certain DT entered by Mexico may provide a tax reduction/ exemption. For example, under the DT entered into between Mexico and the United States, US banks and insurance companies may be entitled to: (i) an income tax reduction of 4.9% over the interest received; (ii) 10% for the interests paid by banks or for the acquisition of fixed assets; and (iii) 15% in other cases. In the case of the DT entered into between Mexico and the Netherlands, a Dutch tax resident may be entitled to the following income tax reductions: (i) 5% for interests paid to banks, financing institutions, and insurance companies; and (ii) 10% in other cases.

Kindly note that it is common practice in Mexico that the lender may address these withholdings under the loan agreements through gross-up clauses (capped/uncapped); which would allow the lender to receive the full amount as if such withholdings were not made.

2. Limitations to the income tax deduction of interests:

Another relevant consideration for any project financing is the limitations to the income tax deduction of the interest payments made by the Mexican project companies. Deductibility restrictions to interest payments have been globally promoted by the OECD members under the base erosion and profit shifting actions; and thus, they have become standard restrictions.

In general terms, the MITL sets forth that Mexican tax residents, as the Mexican project companies, would be able to deduct the payments of interest as long as they comply with certain requirements, including among others, the following:

1. Strictly necessity of the payment of interest: Any expense incurred by Mexican companies must be strictly necessary for the purpose of their activities. In this sense, an interest payment would be deductible provided that it derives from a loan destined for carrying out its business activities.
2. Interests rate of loans granted to related parties: Transactions between related parties must be entered at fair market value. Accordingly, any loan entered into by a Mexican project company and its related parties must comply with transfer-pricing rules (i.e., interest payments must be agreed at a fair market value). Interest payments made in excess of fair market value would not be a deductible item for the payor and could be even re-characterized by tax authorities as deemed dividends. Interest payments re-characterized as deemed dividends would not be a deductible item for the borrower. Likewise, interest payments that are characterized as deemed dividends would require the borrower either to (i) pay a 30% corporate tax rate over the grossed-up interest amount (i.e., the product obtained from multiplying the deemed dividends times 1.4286), or (ii) to reduce the amount of the interest payment from the entity’s after-tax earnings account (known as CUFIN account, which is a tax account that keeps track of the profits that have already paid the corporate income tax), provided that the relevant entity’s CUFIN has sufficient balance. Moreover, to the extent that the lenders are Mexican individuals or foreign residents, the borrower would be required to withhold an additional 10% on the amount of the deemed dividends paid to the recipient of the interest payments.
3. Thin-Cap rule: The deductibility of interest expenses made by a Mexican company on a loan of a foreign related party is limited for tax purposes if its debt to equity ratio exceeds 3:1. Notwithstanding the above, debt contracted by entities that are treated as part of the Mexican financial system, as well as debt contracted for the construction, operation or maintenance of productive infrastructure in strategic economic sectors (i.e., hydrocarbons industry) or the generation of power could be exempted from thin capitalisation rules.
4. Back-to-back loans: Under the MITL, interest paid on loans granted to Mexican entities by Mexican tax residents or foreign residents that are related parties of the borrower, would be treated as deemed dividends if such interest derive from a “back-to-back” loan. [1] The MITL defines “back-to-back” loans, among others, as transactions in which: (i) one party provides cash, goods or services to another party, which in return (directly or indirectly) provides cash, goods or services to the former or a related party thereto or (ii) financing transactions that lack business purpose or substance [2]. Notwithstanding the above, the MITL provides that financing transaction would not qualify as a back-to-back transaction if the relevant loan is secured with stock or any type of debt instruments owned by the borrower or related parties of the borrower that are Mexican tax residents, and the lender is not entitled to such shares or debt instruments unless the borrower breaches any obligation under the relevant financing agreement.
5. Earning stripping rule: Mexican corporations cannot deduct net interest in excess of the product obtained from multiplying their adjusted taxable profit (a concept similar to EBITDA) by 30%. Non-deductible interest resulting from these calculations may be carried-forward for up to 10 fiscal years (subject to certain conditions). It is relevant to point out that the earnings stripping rule is not applicable to debt financing to the following activities: (i) public works (infrastructure projects); (ii) constructions in national territory and the acquisition of land in which such constructions will be erected; (iii) hydrocarbon-related projects (in solid, liquid and/or gas state), including exploration, extraction, transport, storage and distribution; (iv) extractive industries; (v) generation, transmission and storage of power and water; (vi) State-owned enterprises; (vii) institutions regarded as part of the Mexican financial system; and (viii) yields on public debt.
6. Payments to preferential tax regimes (REFIPRE) or conduit agreements: In general terms, the MITL deems as non-deductible the payments to foreign related parties when the income of such related party is subject to a preferential tax regime [3] (or REFIPRE per its Spanish acronym). Certain exceptions may apply, such as if the recipient of the payments conducts business activities. Such restriction should also be applicable to payments made to a foreign resident whose income is not subject to a preferential tax regime, but in which, through several previously agreed transactions, the compensation received by the foreign resident is eventually paid or transferred to a preferential tax regime.

3. Annual adjustment for inflation:

Another relevant aspect to bear in mind for financing projects in Mexico is the annual adjustment for inflation, since any loan granted to a Mexican project company will directly impact this factor, resulting in a possible taxable income or deductible item for the Mexican company.

In this regard, the MITL provides that Mexican corporations must determine the difference between their credits granted and their loans received, and if the amount of the loans received by a Mexican company during the tax year is higher than the amount of credits granted by that company, such difference should be multiplied by the inflationary factor for that year, and the result will be considered as a taxable income (or deductible item), accordingly.

4. General Anti Abuse Rule:

Additionally, it is relevant to consider that any financing project in Mexico and the activities carried thereof must have a business reason. Since the Mexican Tax Code provides that legal acts lacking business reasons that generate a direct or indirect tax benefit could be recast by the tax authorities to those that would have been conducted by the taxpayer to obtain a reasonable economic benefit.

In order to determine that an activity or legal act lacks business reasons, the Mexican tax authorities could presume such situation if the expected economic benefit is less than the tax benefit or if the expected economic benefit could be achieved through the performance of fewer acts, but resulting in higher taxation.

5. VAT considerations:

General considerations: As a general rule, the sale of goods, rendering of services, use of goods within Mexican territory or the importation of goods or services into Mexico, both by legal entities and individuals, trigger value added tax (“VAT”) at a general rate of 16%.

Thus, the loans granted to a Mexican project company would be regarded as an importation of services for VAT purposes. Accordingly, the Mexican project company (as importer of such services) would be, in principle, required to pay VAT due on the interest payments at a rate of 16% (unless it is VAT exempt, as occurs when, for instance, the recipient of the interest is a bank). However, the Mexican VAT Law Regulations enable taxpayers to credit import VAT in the same period in which the relevant import VAT balance would be payable. That is, in the same VAT tax return. Accordingly, no cash-flow would be needed in respect of the import VAT triggered by the Mexican project company on the interests paid to foreign tax residents.

Pre-operational period VAT considerations: With respect to any VAT payments carried out by a Mexican project company to be refunded by Mexican authorities, specific VAT Law rules delay the possibility of crediting VAT from investments and expenditures arising in preoperational activities until the moment on which the taxpayer effectively performs taxable activities.

Notwithstanding the above, taxpayers may choose to credit the VAT paid during the preoperational period, provided they file before the Mexican tax authorities information concerning the estimated investments and expenditures which will be disbursed during said period, as well as regarding the taxable activities which will be performed thereupon.

In the case the taxpayer fails to perform taxable activities in the month after its preoperational period elapses, it may be requested to reimburse the tax authorities with the refunds received together with the corresponding interest and surcharges.

As a general rule, the preoperational period will be of one year starting from the presentation of the first refund request. However, the taxpayer can apply for an extension of the preoperational period for more than one year in the next VAT refund request filed, in which case it must prove the necessity of the extension.

[1] Please see item (ii) above (Interests rate of loans granted to related parties), for the tax effects on the recharacterization of interest to deemed dividends.

[2] As of today, there have not been additional regulations nor official criteria issued by the tax authorities that assist to interpret what should be understood as business reason

[3] The MITL provides that a foreign resident shall be considered as subject to a preferential tax regime if the item of income derived from Mexico is not subject to taxation in its jurisdiction, or such item of income is subject to an effective income tax rate lower than 75% of the income tax that would had been paid in Mexico, had the taxable profit been determined in accordance with domestic provisions.

Infrastructure projects are typically funded by debt and equity.

The debt portion of the financing usually comes from Mexican commercial and development banks, as well as multilaterals and other foreign commercial banks.

Another important player in the financing of infrastructure projects are the Mexican pension fuds, or AFORES, which purchase structured securities traded in the Mexican Stock Exchange (e.g., Certificates of Development or CKD). Bear in mind, however, that only projects that have demonstrated some years of commercial operations would be able to access the securities market; therefore, the financing by AFORES would seldomly be seen in greenfield or brownfield projects (they will usually refinance loans that were granted by commercial or development banks in the construction phase of the project).

On the other hand, to cover the value added tax (“VAT”) requirements during the construction phase of a project, lenders typically provide a VAT facility, to be repaid from the tax returns obtained from the Mexican Tax authority.

The equity portion of the investment is usually backed up by stand by letter of credits (as it will be unlikely for sponsors to fund their equity portion upfront at the commencement of construction, due to the carry forward involved in such funding).

There are several development banks (e.g., state-owned banks) and national funds involved in the infrastructure sector in Mexico. Depending on the nature of the project and its financing, some development banks and national funds will have a deeper involvement. We consider that the following are the most relevant:

A. National Funds

National Infrastructure Fund

The National Infrastructure Fund (Fondo Nacional de Infraestructura; FONADIN) is a public trust created by the National Bank for Public Works and Services (Banco Nacional de Obras y Servicios Públicos; BANOBRAS), that serves as a vehicle for investment in infrastructure, mainly in the areas of communications, transportation, hydraulics, environment and tourism, which assists in the planning, promotion, construction, conservation, operation and transfer of infrastructure projects with social impact or economic profitability, according to the corresponding programs and budgeted resources.

For more information about the FONADIN, please follow the link below:

https://www.fonadin.gob.mx/fni2/

National Tourism Development Fund

The National Tourism Development Fund (Fondo Nacional de Fomento al Turismo; FONATUR) is a public trust that contributes to the planning, programming, promotion and development of tourism activities and tourism resources, as well as promoting the financing of private and social investments. These activities include, among others: (i) executing infrastructure and urbanization works and carrying out buildings and installations in tourist development centres that allow the offer of tourist services; (ii) promoting the creation of new tourist developments in places that represent a tourist potential, and (iii) managing and obtaining all types of financing required to achieve its objective, including granting the necessary guarantees. FONATUR is currently in charge of the construction of the Tren Maya project.

For more information about the FONATUR, please follow the link below:

https://www.gob.mx/fonatur

B. Mexican Development (state-owned) Banks

National Financial Institution

The National Financial Institution (Nacional Financiera; NAFIN) is a development bank dedicated to promoting savings and investment in Mexico, as well as channelling financial and technical support to industrial development and, in general, to the national and regional economic development of the country. These activities include, among others: (i) promoting, channelling and coordinating capital investment; (ii) managing and, where appropriate, obtaining concessions and authorizations to provide public services related to its purpose or for the use of natural resources for the companies that it promotes; and (iii) promoting, managing and implementing projects that meet the needs of national economic and industrial development.

For more information about the NAFIN, please follow the link below:

https://www.nafin.com

National Bank for Public Works and Services

The National Bank for Public Works and Services (Banco Nacional de Obras y Servicios Públicos; BANOBRAS) is a development bank dedicated to financing and refinancing projects that are directly or indirectly related to public or private investments in infrastructure and public services. These activities include, among others: (i) Promote and finance infrastructure, public services, urban equipment, as well as the modernization and institutional strengthening of States and Municipalities; (ii) promote financing programs to expand the coverage of public services and create the necessary infrastructure to promote regional development; and (iii) finance the development of the communications and transportation sectors.

For more information about the BANOBRAS, please follow the link below:

https://www.gob.mx/banobras

National Bank of Foreign Trade

The National Bank of Foreign Trade (Banco Nacional de Comercio Exterior, Bancomext) is a development bank in charge of financing international trade. Bancomext offers their clients risk coverage for companies located in Mexico, together with a collection procedure. Bancomext has financing schemes to support the following sectors associated with infrastructure: (i) energy, with special emphasis on renewable energy projects; (ii) financial backing for promoting the growth of Mexico’s aerospace industry; (iii) mining – metallurgy, focused on the long-term sustainable development of the mining sector’s export chain, and (iv) telecommunications, which program is designed to support the growth and competitiveness of firms participating in this sector through manufacturing processes and services.

For more information about the Bancomext, please follow the link below:

https://www.bancomext.com/en/

Lenders usually view the insurances as an integral and key element of their overall security package for a project financing; however, as coverage may vary depending on each individual project, there are no specific insurance law principles to consider in connection with any project financing in Mexico. This means that the insurance coverage for each project financing must be analysed on a case by case basis.

In this regard, we have identified some standard insurance practices for project financing as follows:

• The lenders are designated as preferential beneficiaries or loss payee in the policies, when legally possible, in other words, the collection rights of the insurance policies are assigned to the lenders so they may collect the indemnification directly from the insurance company if any covered risk occurs;
• The lenders will seek insurance coverage that will remain in place at least for the term of the loans;
• Insurance policies must be engaged with an authorized insurance company in Mexico;
• The lenders will usually employ a firm of insurance advisers (international recognized insurance brokers or law firms with a strong insurance practice) to provide advice (including an insurance due diligence report) to them in this subject;
• Usually, Mexican insurance companies do not accept to include a “cut through” clause in the insurance policy, and

Lenders are entitled to pay the premium in case borrower/insured party does not pay it.