Even with oil prices hitting five-year lows, Mexico has decided to move forward with its historic auction of offshore oil tracts.
President Enrique Pena Nieto followed through on a 2012 campaign promise to overhaul Mexico’s energy sector. The reform opened up Mexican energy for international investment for the first time in over 76 years.
The liberalization of Mexico’s energy sector is intended to halt the slide in oil production. Pena Nieto argues that Mexico needs the capital and technical expertise held by multinational oil companies. Mexico’s oil production has declined by nearly 30 percent since peaking at 3.9 million barrels per day in 2005. The country was only producing about 2.8 million barrels per day as of August 2014.
The historic and controversial energy legislation was signed into law in August, kicking off a period of intense preparation as Mexican authorities lay the groundwork for the first auction. The first step was the so-called “Round Zero,” in which state-owned oil company Petroleos Mexicanos, or Pemex, was given the chance to hold onto certain assets, while it gave up others for private bidding. Announced only a few days after the law was signed, Pemex was able to hold onto 83 percent of its proven and possible reserves, but was only awarded 21 percent of the country’s prospective oil reserves.
Finalizing the law and publishing the results of Round Zero ahead of schedule was a notable achievement, but the optimistic days of August 2014 gave way to several months of unease as the price of oil entered into a rapid period of decline. As of December 12, oil prices were trading in the range of $60 per barrel, a 40 percent decline from the summer highs.
The fall in oil prices forced the Mexican government to consider delaying the first auction, known as “Round One.” That is because much of the assets that the government is putting up for bid will be relatively high cost regions, such as onshore shale. If profit margins for areas up for bid suddenly don’t look very attractive, oil companies may not bid very much. And if that occurs, the government will take in a lot less revenue than it originally anticipated.
Nevertheless, Mexico announced on December 11 its new package of rules for the initial bidding round, which it says will proceed as planned. Bids are due before July 15, 2015.
The government will auction off 14 major blocks that it expects will require investments of about $1 billion each. Together, the shallow water tracts are expected to eventually produce 80,000 barrels per day.
Mexican authorities are confident that the selected blocks will attract significant attention because they are offshore fields that have long lifespans with stable production scenarios, which compare favorably to shale fields that can decline rapidly after only a few years. As such, they are less vulnerable to temporary downswings in prices.
But some of Mexico’s most promising shale, such as the Chicontepec formation northeast of Mexico City, could be delayed as the government considers revising incentives amid falling crude oil prices.
“We must be aware that this bidding round takes place amid volatility in prices in the international crude market, which will oblige companies to be more selective about which countries and areas they invest in,” Energy Minister Pedro Joaquín Coldwell said as he announced the new rules, according to the FT. He went on to add, “[t]his circumstance will showcase the competitive strengths of Mexico’s Round One, which offers a highly diversified portfolio of fields and areas for exploration and extraction, [and] clear and stable investment rules.”
Those rules are designed to encourage competition, and they include such things as forbidding oil majors from making joint bids; bidders must have at least $1 billion in capital; no company can participate in more than one consortium; and consortiums can’t bid on more than five blocks.
It remains to be seen how much interest Mexico will receive from the auction. A lot will depend on where oil prices are heading over the next six months. The International Energy Agency just cut its demand forecast for 2015 for the fourth time in five months, which sent oil prices lower on December 12. In response, oil companies are beginning to make major cuts in spending as many new projects are unprofitable with current prices.
Still, Mexico is plowing ahead with its plans for its first ever oil auction.
By Nick Cunningham of Oilprice.com
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