Lukoil #344 (February-March 2019)

One hundred days after Andrés Manuel López Obrador being appointedMexico’s president, it’s still unclear if his ambitious goals for the country’s oil industry are backed up by the appropriate policy measures. THE MEXICAN SEESAW L ópez Obrador was sworn into office on December 1st, 2018, promising – among other things – to revitalize the country’s oil industry, which has been suffering from production decline and gasoline shortages for years. Mexico’s previous head of state - Enrique Peña Nieto – made the same promise, but wanted to pursue it through very different policies. Peña Nieto had launched one the country’s most comprehensive energy reforms, ending PEMEX’s 75-year national monopoly status. López Obrador wants to put a hold on foreign direct investments and infuse PEMEX with state funds. The new president has ambitious plans: he wants to increase production from 1.75 million bpd to 2.5 million bpd in 2024 and stop importing petroleum products from the US. To reverse a negative trend in production, Mexican authorities have bet on enhancing production from existing shallow water and onshore fields currently under service contracts with mostly Mexican companies. Existing contracts with foreign investors will be also implemented, but new auctions and licensing rounds will be postponed until 2020. AMLO has also spoken negatively about the prospects of any joint ventures between PEMEX and private oil companies in the near future. Instead he has revealed an extensive plan to modernize PEMEX’s refineries and build a new one at a cost of $8 billion in Tabasco, his home state. He hopes this will end Mexico’s dependence on gas imports within three years. PEMEX will benefit from $3.9 billion in government funds and a reduction in its tax burden that will allow the company to reduce its heavy debt burden and increase investment. American production is growing faster than forecasts suggested just a fewmonths ago. The EIA sees U.S. crude oil production averaging 12.4 million bpd this year and 13.2 million bpd next year, and most of the growth would come from the Permian. Despite the flood of American crude, oil markets areunlikely tobecomeoversupplied U.S. crude oil production hit a record 12 million bpd as demand is healthy and output is declining at ageing fields around the world, said Per Magnus Nysveen, senior partner at Rystad Energy AS. In fact, markets will become “dangerously tight” as the growth in shale output levels off toward the end of the next decade, Nysveen predicts. LUKOIL in Mexico: LUKOILwon a tender for Block 12 in the Gulf of Mexico’s Campeche Basin in June 2017 and signed the relative contract in September of that year. In November 2018, the company exchanged its 40%share in the project for 20% of Block 10 and 14, each, operated by ENI. InMarch2018, LUKOILandENI won a tender for Block 28 in the Gulf of Mexico (Sureste basin). LUKOIL got 25%, and ENI got 75% in this project. LUKOIL also holds a 50% share in the Amatitlan onshore project, which boasts significant unconventional resources. Its other partners are Renaissance Oil and Marak Capital. The project is currently being implementedunder a service contract. Mexican oil production declined from 3.5 million barrels per day (bpd) in the mid-2000s to roughly 1.75 million bpd last year. PEMEX’s total debt stands at $106 billion, one of the largest among major international oil producers. Over the coming three years, the company is facing more than $27 billion in debt payments. Citing precarious finances and a collapse in oil output, in January Fitch downgraded PEMEX's long-term Issuer Default Ratings (IDRs) for foreign and local currency to BBB-, the lowest investment-grade rating. In December 2013, the Mexican government enacted constitutional reforms opening the industry to greater foreign investment. The reforms allowed for new contract models for exploration and production including licenses, production sharing, profit sharing and service contracts. Since then, over 100 oil and gas contracts have been signed and executed and three PEMEX partnerships have come into action. Drilling is expected at dozens of offshore exploration wells. Meanwhile foreign investors will likely be limited to exploration works within existing projects and M&A. Recent deals between Talos and Pan American Energy, DEA and Sierra Oil & Gas, Eni and Qatar Petroleum have demonstrated that Mexican offshore assets are highly sought after by IOCs and NOCs from all around the world. However, analysts point out that more action is necessary to realize the government’s ambitious plans. PEMEX needs access to new technologies. According to Wood Mackenzie, mature oilfields make up 60% of Mexico’s total. Around 60-70% of hydrocarbons remain in place during the production phase of working on a reservoir (if tertiary enhanced oil recovery (EOR) has not been applied). EOR techniques are capita l- intensive and require technica l know-how. The leading players in EOR include the supermajors, some large state-owned companies and smaller independents; currently, none of them are Mexican. PEMEX will need to partner for accessing the foreign investment and expertise required for EOR. Issues related to corruption and gasoline theft are equally important. Some ana lysts have est imated PEMEX’s losses to theft in 2018 to be as high as $3-4 billion. Issues of public safety are even more tragic: 100 people were killed at an explosion in the state of Hidalgo when trying to collect gasoline from a leaking pipeline. Finally, external funding is highly important. A reduction in the oil industry’s tax burden and the allocation of additional funds to PEMEX means that the Mexican government risks reducing its ability to meet social obligations. These decisions could cost the new president electoral support and put pressure on sovereign credit ratings in the long term. In the view of Mexico’s current challenges, a balanced approach to foreign direct investment is extremely important. 6 News