Pemex’s success of exploration in deepwater in the last twelve months set a high international standard. Carlos Morales Gil, Director of Pemex Exploration and Production, puts it down to the company’s budget flexibility and patience to allow the expertise to develop in order to execute its deepwater programme. This is but one of several examples of how Pemex is leading by example on the global oil and gas scene. However, if we consider that North Korea is the only country in the world other than Mexico that has not opened up the oil and gas sector to private investment, it does give food for thought.

North Korea's leader Kim Jong-un (picture courtesy of fabmagasineonline.com)

North Korea’s leader Kim Jong-un (picture courtesy of fabmagasineonline.com)

As Guillermo Pineda, Energy Specialist at PriceWaterhouseCoopers (PWC ) points out, “Less experienced companies have overtaken Pemex in the global ranking of national oil companies, due to thorough, relentless preparation, well organized operations, and their countries’ positive economic situations”.

The Mexican public has reacted with suspicion and unease at the mention of opening up the sector to private investment. And some would say, rightly so. Much of it has to do with the misconception that bringing in private investors necessarily means privatization. But to fully understand these sentiments, one would also have to take into account other key factors that have shaped the country. History has taken its toll. Hernán Cortes set the tone by showing up on the shores of Veracruz and planting his flag. Some 300 years later the US acquired vast swathes of Mexican territory. The wealth divide that currently dominates the country is intrinsically linked to past privileges acquired through birthright, and the lack of social mobility encourages the preservation wealth among a small elite. According to public perception, this mechanism is held firm by foreign intervention in the form of private sector activity. It is against this backdrop that every generation of Mexicans is taught in school that oil belongs to the nation. Changing people’s mindset is not going to be a straightforward affair.

The subject of private investment or privatization is a highly sensitive one in any country. Russia did a wonderful job in providing London with some of the wealthiest tycoons residing in its capital by privatizing its key industries after the collapse of the Soviet Union. The Ukraine fared little better in that domain. However, there have been several great success stories along the years in the oil and gas sector, from which Mexico could draw knowledge and wisdom.

According to latest the PWC report on NOCs around the world, companies that appeared to be behind Pemex have shown resilience in their efforts to improve their oil industries and are now topping the performance of the Mexican oil company. In Norway, Statoil successfully took advantage of the country’s favorable economic circumstances to set up an efficient structure to tap into its oil and gas resources, and subsequently made a conscious effort to improve its operation. Brazil successfully evolved from a country dependent on ethanol to one with a strong national oil company. Colombia has also overtaken Mexico, thanks to drastic improvements to both the oil industry and the economy. IOCs have also adapted to the dynamic challenges of the industry over time, from seeing each other as competitors to forming alliances between themselves to share the risks and benefits of projects. This is a lesson that runs contrary to the Mexican Constitution Mandate that allows only Pemex to perform oil-related activities.

Ricardo Moreno, Energy Specialist at PriceWaterhouseCoopers (PWC ), is convinced that the lag that Pemex shows compared with other national oil companies is a direct consequence of not having planned adequately for the future. He believes that the lack of preparation for the Cantarell situation (over reliance on this field cause a 30% decline in Mexico’s national production) exemplifies how Pemex officials reasoned in the past: the problems the company has today are a direct consequence of inadequate spending on exploration and production. He makes a point in saying that Mexico did not make the proper investments at the correct moments, when the country was still overproducing oil and costs were not as high. Now, the country is paying the price.

El petróleo es de todos (picture courtesy of 24 Horas)

El petróleo es de todos (picture courtesy of 24 Horas)

Moreno also reckons that Mexico has failed to optimize the exploitation of natural gas in the country’s northern region, choosing to import instead of investing in the infrastructure needed to develop own resources. He suggests that one option could be to open up the gas exploitation sector to private initiative. The private companies would take on the risk and obtain part of the benefits, whilst the hydrocarbons would still be the property of the country.

Reforms to close the gap

Brazil, Colombia and Norway are the three cases that are most talked about when referring to success stories in the oil and gas sector. All three were fuelled by both political and economic drivers. They also adopted an approach and model that were tailored to the needs and requirements of each country and established their objectives accordingly. If Mexico is hoping to implement reforms, it should not be looking to pick one of these models and attempt to impose it on its structure. Rather, it should look at the benefits and drawbacks that each model has brought to the country in question, set objectives, and from there establish a sensible model that is suited to Mexico.

Moreno argues that one of the basic requirements to make Pemex competitive and eliminate privileges is financial and budgetary independence. Another important point is that the successful NOCs are constantly evolving and adapting to the ever changing environment and demands of the market global and economy, something that Pemex is guilty of not achieving. A common factor in the success stories of Statoil (Norway), Petrobras (Brazil) and Ecopetrol (Colombia) is the private participation in the NOCs. In rough terms, private participation levels are at 10% and 30% in Colombia and Brazil respectively. This brings more transparency and efficiency through competition. However, according to Moreno, the key steps before bringing in private participation are defining the legal, economic and political priorities: establishing what level of control and involvement the state will have, what the model will be, the fiscal regimen behind it, and how to establish competition to make it most efficient. When drawing contracts for example, he believes several points need to be taken into account: establishing objectives, where is the capital going to be invested, where is the capital coming from 3rd parties going to be directed so that we not only separate risk but also free this capital for other projects.

In spite of the shift towards private investment, it is important to note that the three NOCs mentioned above were not only focused on the financial gain of the operation, as any IOC might be. These national companies were careful to include the potential positive social and economic impact projects could have on their community, ensuring a benefit for all.

With the right reforms, Pemex could focus on adding value for investors, rather than having to play several roles, whilst ensuring that the interests of the nation are taken into account. In the Colombian set-up the 10% private stake is not owned by large companies listed on the stock exchange in London or New York. Quite the opposite: priority was given to small investors for the share allocation, such as employee funds, cooperatives and pension funds of Colombian citizens. In the Norwegian model the government had full discretion to choose the operator and participants in the concession investment group. The government also established rules that ensured that the state company and the 2 other national oil companies had the largest and most prolific exploration blocks. In the case of Norway, there was no hand-over of operations to privately run companies, as the state companies were shadowing the actions of the official operators. A smart move to transfer knowledge. What the Norwegians had to foresight to do, and this was a remarkable feat, was to move forward the whole country along with the oil and gas sector. Huge progress was made through reforms in sectors such as security, health, labor, environment, coastal activities, regional development, science and technology. These sectors are now supporting the oil gas sector in Norway to evolve rapidly and efficiently.

The Norwegians included national private companies in the process of consolidation of the national oil and gas industry by requesting that all the national companies that wanted to participate in the sector group into one sole company to reach a size large enough to offer economies of scale.

So where do International Oil Companies (IOCs) fit in? IOCs can add huge value in technology. They invest vast amounts of money in innovation and technology, and they have the advantage of being able to draw from their international experience to apply their expertise on local challenges. This is something that NOCs cannot compete with. Strategic alliances would allow Pemex to gain access to invaluable knowledge that could be vital for its deepwater projects.

Regulation

As Javier Estrada, Director General for Energy Planning and Information at the Energy Ministry and former commissioner for CNH, points out, inertia in the self-regulation of Pemex still persists. Some of this is down to the change of government every six years, which obviously does not allow for smooth continuity on long term projects. The state involvement in the running of Pemex is far from ideal, as certain decisions are imposed on the company without explanations. Mexico urgently needs to address the issue of clearly defining the role of the CNH, the independent regulator, and ensuring its authority is not undermined. This would go some way in helping Pemex to avoid unnecessary distractions and focus on its operation.

There are many options available to Pemex if it wishes to remain a big player on the oil and gas scene. As we have seen, opening up to private investment can be achieved in numerous ways and without harming the interests of the nation. Statoil is now an IOC! It has shown that there can be healthy distance separating the government from the state oil company. The bottom line with Statoil is that we are now looking at a company that is professional, competitive, with few employees and firmly established on the international scene. The biggest challenge for Mexico may not be choosing the right path for development, but convincing the nation to change its mind set by pointing out the difference between private participation and privatization. North Korea does not inspire much confidence right now. Communication is key.

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