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Mexico: Reforms improve prospects for first deepwater licensing round

2016-03-31 Protection Group International Ltd Mexico: Reforms improve prospects for first deepwater licensing round

 

  • In December 2015, Mexico’s government announced plans to auction 10 offshore oil and gas fields in the Gulf of Mexico as part of the country’s first deepwater licensing round. Bidding was planned for later in 2016 and comes amid wider reforms to the energy sector that have improved the investment climate. 
  • Although Mexico has offered attractive terms to investors in deepwater blocks, low oil prices, security concerns and the lack of existing infrastructure present notable barriers to investment.
  • The opposition’s criticism of the government’s energy policies may also intensify as financial conditions at state-owned Pemex deteriorate, though this is unlikely to block the reform agenda. 
  • Despite these challenges, interest from a number of major international oil companies (IOCs) suggests these factors may be outweighed by the potential returns from the country’s prospective, but underexplored, deepwater acreage.  

 

Efforts to increase private sector participation in Mexico’s oil and gas resources benefit from strong momentum to reform the energy sector ahead of this year’s licensing round. Mexico held its first open licensing round in July 2015, which saw just two out of 14 shallow water blocks awarded amid investor concerns over fiscal and legal terms. The government responded to these concerns with a series of reforms that included greater flexibility of minimum work requirements and a lower corporate security guarantee. A subsequent licensing round in December 2015 proved to be Mexico’s most successful yet, resulting in the lease of all 25 onshore fields offered to bidders despite expectations of depressed interest due to low oil prices. Authorities have now awarded just under 70 percent of all blocks made available to private bidders and hope to build on this success in the upcoming auction by opening up the deepwater sector to private investment.

Investor sentiment has also been strengthened by government commitment to a wider overhaul of the energy sector. Following the liberalisation of Mexico’s electricity market in 2014, Bloomberg reported in March that more than 80 companies and consortiums had pre-qualified to participate in an initial wholesale power auction. Moreover, in a November 2015 review, the International Monetary Fund lauded the government’s plans to gradually raise fuel prices. National oil company (NOC) Pemex will also see its monopoly over retail fuel sales end from 2016, creating further opportunities for the private sector.

Reforms bolster interest ahead of bidding

These positive developments have only heightened expectations surrounding the deepwater bidding round, which was long expected to attract the greatest interest from investors. Major IOCs such as Shell, Total, Chevron, Statoil, ExxonMobil and BP have already signed up to participate, and officials estimate that each block could see up to USD 4.4 bn worth of investment over the 35-50 year contracts. Licensing for the 10 offshore blocks will commence in the third quarter of 2016, according to the National Hydrocarbons Commission (CNH). Four of the blocks are in the Perdido area, part of the deepwater Sabinas-Rio Grande basin that research company Wood Mackenzie estimates could contain the equivalent of 15-20 bn barrels of oil. The remaining six blocks are in the Cuenca Salina region.

As with previous rounds, officials have introduced more attractive terms ahead of the deepwater auction in order to strengthen interest. In consultation with industry representatives, CNH increased the size of each block and granted investors more time for exploration. Local content requirements have also been capped at a modest level of eight percent during exploration and appraisal and 10 percent during development, reducing the potential burden from sourcing goods and services locally. For the second time, investors will be offered licence contracts rather than the production sharing contracts (PSCs) granted in the first and second bidding rounds. Licence contracts are typically favoured by the industry, given that they are less complicated than PSCs.

Prices, security weigh on investment prospects

Despite the encouraging indicators, Mexico’s first deepwater round faces several potential challenges. Global oil prices have fallen more than 70 percent since June 2014, leading many IOCs to announce major cuts to planned investment, especially to costly and technically challenging deepwater projects. However, the lengthy contract terms offered by Mexico may help to partly offset the risk that oil prices will only recovery gradually in the coming years. The lack of existing deepwater infrastructure such as pipelines and processing facilities also presents a challenge. Pemex’s monopoly of the oil and gas sector has meant that although 1,200 deepwater wells have been drilled in the US Gulf of Mexico, a key production centre, fewer than 35 have been drilled in Mexican waters.

Domestic political opposition to energy sector reforms, while unlikely to derail further liberalisation, could intensify because of deteriorating conditions at Pemex. The NOC is in the worst financial shape in its history, with total losses of USD 32 bn in 2015 and mounting debts to service companies. The collapse in oil prices has exacerbated the impact of declining production and long-standing inefficiencies at Pemex, and opposition Democratic Revolutionary Party lawmakers – who have been against the energy reforms – have portrayed the company’s financial struggles as evidence that the government’s strategy has failed. Criticism of the government’s energy policies could intensify, as planned jobs cuts are implemented and foreign companies begin to play an increasingly prominent role in the sector. As yet however, the opposition’s campaign is unlikely to block the reform agenda, as despite repeated attempts to block the reforms in parliament over the past two years, the ruling coalition has proven highly resilient.

PGI has previously highlighted the serious concerns for the safety of personnel and assets in Mexico stemming from high levels of crime, violence and corruption. Although offshore oil and gas operations will be less exposed to the threat from organised crime and insecurity than onshore players, organised criminal groups are known to have extensive networks at Mexico’s ports. These linkages could facilitate the targeting of industry personnel, or more likely, assets. Underscoring the risk to supply chains, the interior ministry has estimated more than 5,000 cargo thefts occur annually in Mexico. The frequency and growing sophistication of these attacks highlight the threat from both opportunistic and well-organised criminal networks. As organised criminal groups in Mexico continue to diversify their sources of revenue away from narcotics trafficking to include theft of cargo and fuel, the oil and gas sector is likely to remain vulnerable to crime.  

Protection Group International Ltd

Mexico: Reforms improve prospects for first deepwater licensing round - Protection Group International Ltd
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