A New Era for Mexico’s Energy Industry

A New Era for Mexico’s Energy Industry

24th June 2014

Mexico has embarked on an ambitious programme of oil and gas sector liberalization aimed at attracting foreign investment.  A constitutional reform passed in December 2013 calls for the end of the 75-year monopoly on upstream oil and gas production held by national oil company Petroleos Mexicanos (PEMEX) and will lead to the creation of a number of new regulatory agencies.  Private companies could be invited to participate in competitive bid rounds for new upstream acreage as early as 2015. This article is a summary of the new legislations and what the opportunities could be.

Key Facts

  • A December 2013 Constitutional Reform has ended PEMEX’s 75-year monopoly on Mexico’s oil and gas sector
  • Proposed secondary legislation from April 2014 outlines tax structures for license concessions, profit sharing agreements and production sharing agreements
  • The new legislation, which will be debated by the Mexican Congress at the end of June, calls for 25% local content guarantees by 2025
  • Going forward, the long-term impact of the reform will be to open Mexico’s onshore unconventional basins to foreign investment.
  • In the near-term, opportunities available to foreign companies will include greenfield deepwater plays and shallow brownfield plays in the Gulf of Mexico

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The constitutional initiative is motivated by the need to bring in upstream investment to offset declining oil production.  Mexico’s oil output has dropped by 25% over the past decade and, primarily due to the diversion of revenue to the central government, PEMEX has been unable to increase its budget for exploration and production.  The company invests around US$25 billion per year into upstream development, but estimates that total annual outlays of some US$60 billion are needed to develop new fields, particularly deepwater and shale.

As Figure 1 shows, in order to return to output levels of the early 2000s (over 3 million bpd), new developments yielding 0.5 million bpd of oil output are targeted by 2018.  

Figure 1. Mexico Oil Output: Historic and Forecast 2000-2018

Figure 1. Mexico Oil Output: Historic and Forecast 2000-2018

The reform will feature three phases: first, the Mexican legislature will pass secondary legislation to define the acreage available and the procedures for future bid rounds.  Proposed secondary legislation was presented on April 30 and is expected to be debated in Congress by the end of June. The proposed legislation solidifies many of the principles of the December reform: PEMEX’s overall tax burden will be reduced from 79% to 65%, and the basic fiscal structure of profit sharing and production sharing agreements has been set forth (alongside with concessions).  Most concretely, the legislation commits to the independent management of Mexico’s oil sector through the establishment of a Mexican Petroleum Fund for Stabilization and Development, and budgetary autonomy for the National Hydrocarbons Commission.  Finally, the secondary legislation calls for the gradual implementation of local content requirements, with the share of local content in oil and gas projects to reach 25% by 2025.  Details will be worked out when public bidding guidelines are released.

Once secondary legislation makes its way through the Mexican Congress, under a so-called ‘Round Zero’ Mexico’s Energy Secretariat, together with the National Hydrocarbons Commission, will review PEMEX’s application to retain existing acreage.  PEMEX will be entitled to keep any acreage where it has demonstrated the technical and financial capacity to develop the oil and gas resources.  After receiving acreage via asignaciones, PEMEX will have a three year development window (and a possible two year extension) before relinquishment.  Private investors will be eligible to develop acreage claimed by PEMEX under Round Zero via joint ventures only.  This applies to PEMEX’s producing assets onshore as well as limited Gulf of Mexico resources, and is very similar to the process that took place with Petrobras in the late 1990s following deregulation of the petroleum sector in Brazil.  

Finally, after the transfer of Round Zero acreage to PEMEX, private companies will be invited to bid on unassigned acreage (both brownfield and greenfield) in future bid rounds. Round One could take place as soon as early 2015, while contract terms and conditions are yet to be determined. 

Figure 2 below indicates the Round Zero and Round One processes within the context of PEMEX’s restructuring:

Figure 2. PEMEX Restructuring

Figure 2. PEMEX restructuring

With such a potentially momentous reform, what exactly is the opportunity?  

There is great anticipation that the historic energy reforms in Mexico will lead to a boom in unconventional oil and gas production similar to that which has occurred in the United States in recent years.  This is mainly due to the similarities between Mexico’s onshore basins such as Chicontepec and various unconventional basins in the United States.  PEMEX has lobbied to have Chicontepec fields excluded from future bid rounds, but the inability to attract service companies for Chicontepec blocks Amatitlan, Miahuapan, and Pitepe in the November 2013 fee-per-barrel auction may hurt PEMEX’s case.  

Thus, in the short-term, as PEMEX’s Round Zero acreage application is reviewed, a fair portion of PEMEX’s planned 2014 spending will be postponed or even canceled (including in hydraulic fracturing), and unconventional acreage could be made available for bidding as early as 2015.

And, while it is true that short-term interest from independent oil companies with experience developing unconventional oil and gas resources may be high, the companies most likely to collaborate with PEMEX through Round One are those companies with expertise in lower-return brownfield projects, including shallow water heavy oil, which may not be high-yield plays.  This applies to blocks Kayab and Pit in the Gulf of Mexico.

National oil companies with an international focus are likeliest to bid on these assets.  Indeed, since the start of 2014, there have been multiple high profile meetings in Mexico featuring executives from India’s Reliance Industries, Italy’s Eni, and Russia’s LUKOIL.

In the long-run, however, the health of Mexico’s oil sector will depend on the development of greenfield deepwater resources.  It is estimated that 74% of Mexico’s current production is from offshore resources, and incremental new production from deepwater alone could contribute a nearly 33% boost to Mexico’s oil output.  In short, this is the long-term objective of Mexico’s energy reform.  The majority of deepwater acreage will not be made available for competitive bidding until after the Energy Secretariat and the National Hydrocarbon Commission outline the acreage to be auctioned under the terms of Round One and Round Two.  In the long-run, the development of these assets will be the main focus of private investment. The energy reform is a step in this direction.   

Authors

A New Era for Mexico’s Energy Industry

Alan Cunningham

Technical Director: Commercial - alan.cunningham@gaffney-cline.com
A New Era for Mexico’s Energy Industry

Mark Mozur

Senior Consultant, Strategic Advisor - mark.mozur@gaffney-cline.com

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