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Mexico's energy sector must prove its worth amid low prices

The long-overdue opening of the country’s energy sector promises much – for Mexicans and the world, but first the country needs to attract companies

First there was excitement over Mexico’s energy reforms. President Enrique Pena Nieto went further in opening the industry to private and foreign investors than most thought he would, casting off nearly 80 years of energy isolation that has cost his country dearly in recent years. 

Then there was hand wringing. The steep fall in the oil price has complicated the opening and poses questions about the profitability of Mexico’s oilfields if low prices linger. When the reforms were first announced, oil companies were flush from high prices and eager for new frontiers. Now, Mexico must win over companies that are slashing budgets and unsure of the market’s direction. 

Soon, though, it will be decision time for the industry. The first oil auctions are this summer and Pemex has already started bringing partners into new pipeline projects. Mexico’s policymakers have vowed to press on in the face of the downturn and they can still win over investors. 

Behind the wall

The crown jewel of Mexico’s energy opening is the country’s untapped deep water in the Gulf of Mexico (GoM). The US GoM has been the world’s most prolific deep-water province, yielding billions of barrels of oil. Thousands of wells have been drilled and a dense network of pipelines built. But all of that activity comes to an abrupt halt at the maritime border with Mexico. 

Pemex, which has drilled some deep-water wells but hasn’t moved ahead with any commercial production, reckons there are around 27bn barrels of oil and gas waiting to be found in the deep water, making it one of the most enticing oil frontiers in the world. 

Exploration slowdown

The first deep-water fields will be put up for bidding later this year, though no timeline or details on the fields had been released at the time Petroleum Economist went to press. The initial focus will likely be in the areas near the border where oil has been found just across the frontier. The multi-billion barrel Perdido oilfield, for instance, is thought to straddle the border. The US section of the field is operated by Shell, which is working alongside minority partners Chevron and BP. Those companies have long cast their eyes across the border and will take a keen interest in the bid round.

Before then, a raft of shallow-water and onshore fields will be auctioned over several phases later this year. The first phase, covering 14 shallow-water blocks, begins in July. The fields are thought to be relatively small, but are in a well-explored area of the GoM. Mexico will no doubt want to see the majors take part in the bidding, but independents and a new crop of Mexican oil companies, being created to take advantage of the reforms, may be just as likely bidders. 

The country also has significant unconventionals potential. The prolific Eagle Ford shale, from which US producers are pumping 1.7m barrels per day (b/d), stretches across the border from southern Texas into northern Mexico’s Burgos basin. Other promising shale plays span the country’s Gulf coast. Policymakers have acknowledged that shale will be more complex to develop in Mexico, so an auction will likely be put off until at least next year. 

It isn’t just the upstream that is being opened up. The country is in critical need of investment in its energy infrastructure. From pipelines to refineries to storage tanks and terminals, Mexico’s energy infrastructure is not up to the task. Swathes of the country remain untouched by the natural gas pipeline network, which is a fraction the size of the US. Although a major oil producer, Mexico has to import fuel because it hasn’t built a new oil refinery since the late 1970s. And a paucity of fuel storage facilities means the country routinely only has a day or so of excess supply during peak driving times. The government hopes to pull in tens of billions of dollars of private capital to deal with the problems.

Potential investors will need a good understanding of the new legal landscape and the terms on offer. Mexico is not giving up ownership of its oil and gas. That would have been politically unacceptable. But it will offer a range of different contracts that allow companies to book reserves for accounting purposes. 

Mexico

The government, however, still has much to do to attract investors. 

Reforming Pemex is crucial to the broader reform effort. The national oil company has earned a reputation for inefficiency over the years. But a new Pemex is now needed. Losing its monopoly, the state oil company will find itself in the unfamiliar position of having to compete on an equal footing with international companies. The company’s new chief executive Emilio Lozoya, a corporate turnaround specialist, has tirelessly sold the message that a new, more efficient, profit-driven Pemex is taking shape. A number of positive steps have been taken. But it will take many years to change the company’s culture.

Understaffed

The country’s new regulators, which will be understaffed until a new generation of energy technocrats can be trained, will need to work in concert and efficiently. So far the regulators, especially the newly empowered National Hydrocarbons Commission (CNH), have won praise. But concerns are mounting over whether or not the government has got the fiscal terms right given the fall in the oil price. Some companies have also complained about what they consider overly restrictive bidding terms. To get the reforms off to a successful start, the inexperienced regulators will need to ensure the right acreage is on offer, at the right terms, and the first stages of bidding run smoothly and transparently. 

Finally, the government needs to address the country’s security situation. The oil industry works in security environments far more difficult than Mexico. But the country’s criminal cartels pose a threat to the industry. Kidnapping Pemex workers for ransom has become a steady source of income for the cartels. Wealthy executives from international firms will make enticing targets. The cartels have also developed a sophisticated and lucrative oil theft system that will need to be rooted out to attract downstream investment.

In short, fixing Mexico’s energy sector will be a tricky task, needing politicians ready to follow through what they have begun. But the rewards are huge. Address the problems and this truly could be Mexico’s energy moment.

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