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Pemex reform efforts in Mexico hobbled by oil downturn: Fuel for Thought

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Pemex reform efforts in Mexico hobbled by oil downturn: Fuel for Thought

Falling crude oil production, falling refined product output and falling income have led many to believe that the sky is falling on Mexico's state-owned oil company Pemex.

The perilous situation for Mexico's energy industry -- and Pemex is Mexico's energy industry -- has not been lost on officials who are trying to reform the company and, by extension, the nation's energy landscape.

Mexican officials have long argued that a strong Pemex would be a major feature of its energy reform. The company, they said, would metamorphose into an efficient, market-oriented, financially autonomous state enterprise that is able to compete on equal terms with international majors in the private sector.

Unfortunately, the deep dive in the price of oil has put Pemex on an even shakier footing, with the company now losing money on crude production, its core business, for the first time since it emerged as a major producer in the late 1970s.

For years, the profitable upstream division of Pemex shouldered the losses of petrochemicals, refining and other businesses. No longer, says Arturo Carranza, senior analyst of the Mexico City-based Solana consultancy.

"To my surprise, during the first three quarters of 2015, the upstream division was making a loss, just like the others," Carranza said.

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Including all its divisions, Pemex had net losses of almost $10 billion in the first three quarters of last year.

But turning around a state-run enterprise with 77 years of inertia behind it, can't happen overnight and while steps are slowly being taken to turn things around, more pain is likely.

The first barrels of oil from private-sector newcomers following Round One of the reform effort are not expected until at least 2018. This makes arresting steadily falling crude production difficult as low oil prices have deprived Pemex of investment capital of its own.

Mexico's crude oil production fell to 2.275 million b/d in December, down nearly 12% from 2010, according to Pemex data.

Pemex is not only starved for E&P money, all segments of the company are looking for investment dollars.

This is why Pemex recently opened up most aspects of the company, from storage and distribution terminals to pipelines, refineries, and petrochemical plants to outside investors.

Pemex paying price for years of regret

Unfortunately for Pemex, the need for investors comes when asset prices are low due to low commodity prices and the company's hardware likely needs plenty of upgrades to bring them up to speed.

Since Pemex favored the crude production side of its business over others, the downstream refining business is in sore need of repair. This is one reason the company's refined product output has decreased over the years.

At the end of December, Pemex produced 1.283 million b/d of oil products, down from just over 1.415 million b/d in 2010.

The result of this was Pemex needing to import more products, which, in combination with weak oil prices, made Mexico's trade gap balloon to nearly $10 billion in 2015.

In addition to bringing in private sector money, Mexico is also trying to transform its energy pricing to more market-based prices.

Pemex first tried to do this in the 1990s with natural gas by tying it to the US benchmark Henry Hub. This was thought to not only give Mexico a market-based price but allow for hedging as well.

However, one of the complications with that change was that the price did not accurately represent Mexico's domestic natural gas fundamentals.

This is now changing with the Los Ramones pipeline that will allow Mexico to import natural gas from US shale plays. Not only will the pipeline bring gas to a Mexican market hungry for it, but now the US price will have an element of the Mexican market.

"But it should have been started about 10 years ago, when the demand signals began to emerge," said Houston-based energy consultant George Baker. "When demand began to exceed supply for gas within Mexico, there was almost no way to meet it. Hence, industry was disrupted in much of Mexico for some years. Only now, as Los Ramones progresses, gas supplies are meeting current demand, though demand is likely to grow."

Mexico is set to further expand the reform of domestic market-based prices by using spot prices across its energy sector from upstream oil and gas to downstream derivative products.

Pemex has a long road to reform ahead and while the sky may not be falling the clouds got a little darker at the end of last week when S&P downgraded its credit profile due to "expected lower hydrocarbon prices."

--Ronald Buchanan,