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Growing upstream maintenance spending hitting Pemex's ability to develop new fields

Highlights

Maintenance costs have doubled to $5.1 billion since 2013

Fields producing 70% of Pemex's current output will be depleted by 2028

Company needs corporate restructure to better use resources

Mexico City — Pemex's growing maintenance spending is constraining the ability of the Mexican state oil and natural gas company's to develop new, potentially lucrative fields, analysts say.

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Pemex plans to spend $5.9 billion on upstream maintenance this year, according to the company's annual report to the US Securities and Exchange Commission,up 25.5% from 2018 and nearly double its maintenance spending in 2013. Excluding maintenance, Pemex has budgeted $5.1 billion for upstream capex this year, the SEC report shows. Put in terms of Pemex's total upstream capex budget for 2019, maintenance represents 54%, up from 29% in 2013.

"The numbers reported to the SEC follow Pemex's main strategy of stabilizing its production as soon as this year," said Victor Gomez, senior economist with Mexico City-based brokerage firm Finamex.

But it is becoming expensive and challenging for Pemex to maintain its production, said Gonzalo Monroy, director of Mexico City-based energy consulting firm GMEC.

"Higher maintenance costs are reflected in higher production cost in Pemex's major oil fields," he added.

Pemex did not respond to requests for comment for this article.

Production costs at Ku-Maloob-Zaap, Pemex's largest producing field, have tripled since 2013 to $15/boe last year, the SEC report shows. Nearly a quarter of Pemex's total upstream budget, or $2.5 billion, is allocated at Ku-Maloob-Zaap, the source of half of the company's 1.7 million b/d oil production in April. During the same period, output cost has nearly quadrupled to $39/boe at the Cantarell shallow-water complex's massive Akal Field, which used to be Mexico's largest.

Most of these maintenance expenses will be used for major repairs and work-overs in existing fields for secondary and tertiary recovery activities, according to Gomez, a former senior executive with Mexico's Finance Secretariat.

Mexican President Andres Manuel Lopez Obrador's administration is aware of Pemex's upstream resource constraints. On Monday, the government provided Pemex with further fiscal relief, expanding its current maintenance tax deductions on certain mature fields to increase their production by 250,000 b/d. In response, Pemex said Monday this will allow it to deduct $1.5 billion in upstream expenses. This increased deductions will be possible as the government grows Pemex's maintenance deductibility to 35% in shallow-water fields and to 40% for onshore fields from 12.5% currently, Gomez said.

However, it is unclear how beneficial Lopez Obrador's plan will be to improve the company's balance sheet as it allows it to boost output from fields currently unviable due to high production costs, Monroy said.

Lopez Obrador wants to increase Pemex's output to 2.4 million b/d by the end of his administration in 2024 from its current 1.7 million b/d. But Gomez suggests the company's increased upstream capital spending might not be enough to do this.

"If you seek to increase production beyond the current levels, $5 billion [in additional capex]seems a bit insufficient," he said.

Pemex plans to start production from 20 onshore and shallow water fields this year, reaching a combined peak production of 340,000 b/d and 1.2 Bcf/d by the end of 2021.

According to Mexico's National Hydrocarbon Commission, Pemex requires more than $20 billion/year in upstream investment to increase its output effectively.

Pemex has $104 billion in net debt, it said in its report to the SEC. But despite the obstacles Pemex faces, JP Morgan, HSBC and Mizuho Securities on Monday extended deals to refinance the company's debt and credit lines by a total $8 billion. Executives from these banks said they were confident about Lopez Obrador's plans to improve the situation at the company.

GROWING OUTPUT SEEMS UNCERTAIN

Pemex produces nearly 90% of its crude production from mature fields. Based on its 2019 budget, developing 20 discoveries this year seems more questionable if it aims to grow production sustainably in the medium-term, Gomez said.

"This is concerning as the development of new projects is capital intensive, particularly in the early stages," he said.

Pemex faces a steep challenge to replace its aging field, considering 24 mature fields producing 72% of the company's oil and gas will be depleted by 2028 according to toa transition report written by the previous Mexican presidential administration of Enrique Pena Nieto.

For example, the company plans to develop the massive Ixachi Field, which has an expected peak output of 750 MMcf/d and 80,000 b/d of light crude and condensates. Ixachi's estimated development cost is $1.5 billion, Pemex has said. However, the company allocated just $35 million in capex for its Veracruz Basin unit where the project is located, the SEC report shows.

Pemex has a strategy of developing new fields near existing infrastructure to cut costs and due to their shallow-water locations, development costs should be lower, Monroy said. However, the production costs of these new fields must exceed $15-$18/b due to their more complex geology such as higher pressure and lower recoverable resources, he said.

"This is very distant from the golden age of giant fields like Akal and Ku-Maloob-Zaap," said Monroy, referring to the production costs of under $5/b these fields had in the 2000s.

Money alone will not solve Pemex's challenging situation, said John Padilla, IPD Latin America's managing editor. One of the company's main problems is its corporate structure oriented towards developing mega oil fields, he added.

"The simple fact of the matter is that Pemex's issues are beyond a money problem and a high tax burden," Padilla said. "It is hard for Pemex to move to a Cantarell and Ku-Maloob-Zaap afterlife where it needs to recover production from many smaller fields."

Pemex has 300 marginal fields with an upside potential that it has not been able to capture. There are multiple examples when smaller fields have significantly increased production once Pemex handed over its operations to other companies, Padilla said. One is the marginal onshore Cuchiapa Poniente Field, where Petrolera Lifting will grow output to 8,000 b/d by 2021 from 500 b/d it had in 2015 when it acquired the are during Round 1.3.

Currently, Pemex has 100 mature onshore fields that with enhanced oil recovery could add 2 billion barrels of recoverable reserves by boosting their final recovery to 30% from 24%, according to upstream analytical firm Welligence. This would allow Pemex to increase the production of these fields to 500,000 b/d by 2024 from 100,000 b/d today. To do this, the company would have to farm out these areas to partners with the technical know-how on mature fields.

Pemex's top five E&P projects by non-maintenance capital expenditure
Asset CAPEX assigned in 2018 CAPEX assigned in 2019 Oil output (000' b/d) Gas output (MMcf/d) Total proved reserves(million boe) Developed reserves (million boe)
Ku-Maloob-Zaap 569 892 874 693.5 2,600 1,700
Chuc 687 636 174 254 257.9 190.2
Ek-Balam 147 518 38 8.2 210 124.5
Light Marine Crude 184 277 65 244.5 88.6 87
Integral Yaxche 192 269 43.5 36.5 27.1 15.9
Total: 1780 2589 1,100 1,200 3,183 2,117

-- Daniel Rodriguez, daniel.rodriguez@spglobal.com

-- Edited by Richard Rubin, newsdesk@spglobal.com