Energy & Natural Resources
CMS Cameron Mckenna - Simmons & Simmons LLP - Clifford Chance - Fasken
July 2013
Expert Guide
38 - Expert Guide : Energy & Natural Resources 2013 Expert Guide : Energy & Natural Resources 2013 - 39
ture structures wi...
40 - Expert Guide : Energy & Natural Resources 2013 Expert Guide : Energy & Natural Resources 2013 - 41
That is the big qu...
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Energy & Natural Resources


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Energy & Natural Resources

  1. 1. Energy & Natural Resources CMS Cameron Mckenna - Simmons & Simmons LLP - Clifford Chance - Fasken July 2013 Expert Guide
  2. 2. 38 - Expert Guide : Energy & Natural Resources 2013 Expert Guide : Energy & Natural Resources 2013 - 39 ture structures with private investors. Certain constitutional and legal amendments would need to occur for this to happen, but it is not out of the question, particularly considering that there is firm understanding that in the absence of some immediate increase in production, Mexico may face the daunting scenario of becoming a crude oil importer by as early as the year 2020. Shale Oil & Gas Except for coal-bed methane, Mexican laws and regulations make no distinction between conven- tional or unconventional resources. However, the fact that highly specialised technology and expertise are needed to tap such unconventional resources, and since such technology and exper- tise are somewhat alien to Pemex, commentators agree that the best way to obtain these resources is by allowing private parties to participate in explo- ration and production activities, in a manner suf- ficiently attractive to them, without granting actu- al rights over the reserves or products. However, it is yet to be seen how the Mexican government intends to foster investment in these projects and therefore, how these resources will be tapped into and what will be the incentives for the particular investments to be made in a legally and economi- cally sound environment. Downstream Activities As indicated in the Pact, one of the areas that will be addressed in a Mexican hydrocarbon reform, are the refining, petrochemical and hydrocarbon transport systems, activities that to date can only be performed by Pemex. The Pact sets forth that reforms to create a competitive environment in such areas must be approved. Does that imply that the reform should allow private parties to re- fine and transport hydrocarbons? Opportunities in the Mexican Oil & Gas Sector In Light of the Potential Reform to the Hydrocarbon Sector By Juan Francisco Torres Landa R. & Miguel Angel Mateos S. urrently the reserve-to-production ra- tio of Mexico is 10.2 years.1 Mexico has vast reserves of unconventional resources. However, Pemex lacks the technology and experience to tap such reserves. Bringing International Oil Companies (“IOC’s”) with the appropriate know-how will cer- tainly assist Pemex in properly understanding the risk profile of unconventional hydrocarbon proj- ects, and will allow Pemex to increase Mexico’s reserves, thereby improving the country’s energy security levels. Commentators generally agree that energy secu- rity implies the ability of a given country to ob- tain reliable energy sources at a reasonable price. Hence, having vast hydrocarbon resources (un- conventional or otherwise) by itself is not a solu- tion to improving the energy security of a coun- try. Several factors play a fundamental role in defining a strategy to increase the energy security in a country.2 Having vast hydrocarbon reserves, without the ability to process or transport them makes a country vulnerable to market distortions. A good example in Mexico is gasoline. Mexico’s refining capacity is insufficient to meet demand. Demand is met by imported gasoline from Unit- ed States refineries. As a result, Mexico is a net importer of gasoline. As opposed to the general practice of oil producing and non-oil producing countries, where refining capacity is established in such a manner that will ensure domestic pro- duction at levels that reduce reliance on imports, Mexico has chosen not to expand its capacity and rely on the United States as a provider of refined product. 3 A similar situation occurs with natural gas. Even though Mexico sits above material natural gas reserves (conventional and shale gas4), produc- tion does not meet national consumption, which makes it necessary to rely on: (i) natural gas im- ported from the United States; and (ii) natural gas imported from other jurisdictions (i.e., Peru and Nigeria) at European price levels (approximately US$16 per MMBTU). In addition, lack of trans- portation infrastructure creates several other bot- tlenecks that directly affect Mexico’s energy secu- rity strategy. The Response – Pact for Mexico Keeping in mind the issues discussed in Section 1 above, the Mexican government led by Presi- dent Enrique Peña Nieto mustered support of the main political parties to sign the “Pact for Mexi- co” (Pacto por México – the “Pact”). The Pact is an instrument that reflects the understanding of what are the common goals shared by the three most relevant political parties in Mexico with re- spect to several structural issues of the Mexican economy, politics and development. The energy sector is prominently included in the Pact. Parties to the Pact acknowledged the need to reform the hydrocarbon sector, but each party had its own view as to the scope and reach of the required en- ergy reform. The purpose of the Pact is to set forth the main ingredients for an energy reform to be discussed in Congress, with the aim to modernise the sector, open up the opportunities for private investment, and otherwise achieve the objectives detailed in the Pact. Base on the Pact, the current Mexican adminis- tration is striving to achieve an aggressive energy reform (especially focused on hydrocarbons). The purpose of the reform is to make the hydrocar- bon sector in Mexico one of the most important growth instruments through the attraction of in- vestment and technological developments. Under the Pact, title to hydrocarbons will remain with the Mexican State. However, the Pact does C provide for hydrocarbon exploration and produc- tion capacity to be expanded in order to maximise oil & gas revenue in Mexico. Likewise, the Pact seeks to create a competitive environment in the downstream sector, without actually privatising Pemex. Putting aside the modification to Pemex (and Mexico’s tax regime), 5 the general framework un- der which legislators will start working on the re- form to the hydrocarbon sector is quite broad and somewhat unclear at this time. However, based on the shortcoming of an earlier reform back in 2008 it is believed that the hydrocarbon reform will fo- cus on the following topics: Pemex Contracting and Association Regime Modifying the legal regime to allow private inves- tors to obtain title to hydrocarbons in Mexico (in the subsoil or at wellhead) will most likely not oc- cur (no licenses or concessions). Likewise, pro- duction sharing contracts will not be allowed, nor will provisions allowing Pemex to pay the contrac- tor in kind (with hydrocarbons). However, the Pact does indicate that Mexico’s E&P capacity must be developed and increased. Politi- cal leaders have mentioned that one way in which to achieve such expansion in capacity is by allow- ing private parties to explore and produce under a more competitive structure. This approach would enable private investors to be compensated for the risks they actually undertake. The current regime places a considerable amount of risk with the con- tractors with no upside potential. By leveling the risk allocation process in the new contracts, more national and international investors will be at- tracted by the Mexican regime, resulting in an in- crease of IOC’s exploration and production of hy- drocarbons in Mexico, particularly in areas where Pemex lacks the technology, experience and/or other resources. Another scenario that may be considered by the political parties that are signatories to the Pact would be to allow Pemex to enter into joint ven-
  3. 3. 40 - Expert Guide : Energy & Natural Resources 2013 Expert Guide : Energy & Natural Resources 2013 - 41 That is the big question that must be answered. How- ever, the manner in which the Government intends to create a competitive environment in such areas is yet to be seen, as the Mexican government has disclosed very little information in this regard. The focus ap- pears to be now on discussing the reform to the up- stream sector. Conclusions Investment opportunities in the Mexican oil & gas sector are expected to be created based on an ener- gy reform that allows private investors to participate more actively in upstream and downstream activi- ties. The reform is not aimed at creating an integrated and liberalised industry as a whole, where upstream, midstream and downstream activities are fully per- formed by private parties, with the supervision of the State as regulator. The reform is instead aimed at al- lowing private investment in the indicated sectors and activities, without privatising Pemex, but reducing the current monopoly it has on the entire sector. For it to be successful, the reform must result in the increase of Mexico’senergysecurity,reducingrelianceonimports of gasoline and natural gas and reducing governmen- tal reliance on the oil & gas revenue – the energy re- form can only be understood in tandem with a deep reform to the tax systems in Mexico. Moreover, by as- suring Mexico’s energy security, the sector may boost the domestic economy by making Mexico a preferred destination for large investments in the sector. Op- portunities are expected to come immediately in ser- vice contracts for the exploration and production of hydrocarbons in: (i) the deepwater area of the Gulf of Mexico; and (ii) shale oil and gas. However, the legal and economic implications of these options will de- pend on the final content of this much awaited and needed energy reform. Civil, Commercial and Cor- porate Law; Project Financ- ing; M&Acquisitions; Foreign Trade; Arbitration; Immi- gration Law, Environmental Law, Economic Competition- Antitrust; Mining; Taxation for Non Residents and Tele- communications. Juan Fran- cisco Torres Landa can be contacted via phone on +52 55 5091 0000 and email at 1 - 2 - Since we are addressing hydrocarbons in this article, we consider it more convenient to remain on topic and discuss the elements conforming Mexico’s energy matrix at another time. 3 - Pemex even has a 50/50 JV with Shell to operate a refinery in Deer Park, Texas. 4 - Mexico is one of the top ten countries in the world in terms of shale gas reserves. 5 - Mexico is a textbook example of the “resource curse.” Reforms to the tax laws are envisioned to reduce the reliance of the Mexican government on oil & gas revenues.