Centralizing PEMEX and the Procurement Reform

Q: What is the rationale behind the centralization of procurement at PEMEX?

A: There have been many efforts in the past to achieve some sort of centralization within PEMEX. The objectives and reach of these efforts have been varied. Some of them focused on centralizing governability, while others targeted strategy with local execution. The creation of a procurement division is a new effort by PEMEX to centralize operations and duties. To develop the procurement division, we have visited different countries and talked with several oil and gas players to analyze their models, their actions and the reasoning behind these. But we are not looking to reinvent the wheel. We talked to external consultants on how companies transition from one procurement model to another. We saw that PEMEX’s procurement operation is a decentralized model that runs contrary to the industry tendency and international best practices.

PEMEX signs an average of 30,000 contracts for goods, services, leases, and public works each year, involving around 120 different purchasing units within PEMEX. This makes it nigh on impossible to have centralized governability or standardized processes, with each of those units interpreting the applicable laws in their own way. Having little aggregation of demand, close to no standardization, and remote consolidation destroys economies of scale, ultimately causing inefficiencies and lack of potential savings. The majority of these purchasing units operate at the user level, so the unit with the procurement need is also the one in charge of contracting, creating a natural conflict of interest. There is no transparency or objectivity in this process. When you compare international best practices in procurement and PEMEX’s current model, it can be said that it has nothing that resembles a procurement strategy. Given the market’s centralization trend in procurement, it is clear that, for PEMEX to be efficient and competitive in an open industry, its procurement function had to be modernized to match international standards.

Q: Which role will the new approach to procurement play in the transformation of PEMEX into a productive enterprise of the state?

A: We have to understand this division within a bigger context. There is a larger effort which resides on transforming the company into a process-based operation. We are going to look at PEMEX in a transversal way, as opposed to a hierarchical way. From this perspective, the procurement process – which is still not considered a process in PEMEX as of today - becomes as important as other processes, such as accounting, human resources, and logistics. All these processes are integral parts of a company. PEMEX is moving into a transversal mode of operation, with procurement being one of the components experiencing a significant structural change. 2,500 to 3,000 people will depend on this function, including myself.

Q: Which resistance do you expect against the centralization of procurement activities?

A: The resistance is natural and profound, as for the first time in its history PEMEX will have to compete with other companies, as a result of the Energy Reform. As PEMEX moves toward being a modernized, efficient, productive company of the state, we face 75 years of cumulative resistance. People that have been working here for 25- 35 years often have a certain modus operandi, which is difficult to change overnight. That is probably the biggest challenge PEMEX faces.

We are very aware that the procurement division needs to become accepted. We decided on the conceptual aspect of the integration program at the executive level. We then brought in the people currently in charge of purchasing to have them validate all the activities required for the integration and to make sure all the timetables are reasonable and realistic. This also entails identifying all the operations and people involved, which is a weary process since PEMEX has 150,000 people dispersed across its activities. We made sure we included all the main players such as the CEOs of the four subsidiaries, the sub-directors, and those in charge of procurement in the subsidiaries. We had a kickoff meeting to communicate the importance and benefits of this process and will be carrying out an internal communication campaign to reinforce the rationale behind it. This will help us alleviate the resistance and make people buy into the centralization concept in the context of the Energy Reform. We are conscious that this will be very difficult, but the process will be done with a business-minded approach, in a slow, smooth, and transparent way. We are dealing with proud oil people, whose lives are in this company. By inviting them to be part of the privileged actors of this reform and empowering them to make a change in the company, resistance is appeased. There have been efforts in the past where functions have been centralized. The best and most prominent example is probably PEMEX’s Information Technology and Business Processes Corporate Direction (DCTIPN), which was centralized overnight. As in any organization, when two companies merge, a high percentage of failures can be attributed to the attempt to blend two different cultures. In the DCTIPN’s case, this merger was perceived as a hostile takeover. There was no communication and the people involved were not included in the decision-making process. As a result, it has taken a lot longer to centralize. We now have a very detailed integration program divided in phases to avoid this being perceived as a corporate takeover.

Q: How will the centralization effort take place?

We will integrate PEMEX’s procurement activities in four phases, starting throughout 2014. Phase Zero will be the easy part, integrating the Supply Direction into the Suppliers Unit, which is at the corporate level. Phase One is a soft transition phase, where we will integrate Drilling, Project Services, Maintenance and Logistics, and the Marine Regions. As we integrate these areas, we will not affect any operation, avoiding a functional paralysis. Phase Two will come later, integrating the North and South regions, as well as the offshore divisions. Finally, we will integrate refining in several soft transition phases – purchases are made both centrally and at the refinery level. Given that each refinery acts as an independent company, we will integrate each refinery on its own. In the last phase, we will incorporate PEMEX Gas and Petrochemicals.

PEMEX’s CEO, Emilio Lozoya Austin, along with the other Directors understood it was key to have strong leadership support as a mandate. The corporate team is fully behind this effort. Then, it was important for the CEOs of the subsidiaries to be onboard, and despite some differences in opinion, there have been no doubts as to the necessity of this process. The next step was going down the hierarchical ladder, empowering and involving people in the development of the integration process. We always talk about economies of scale, consolidation, savings, transparency, and productivity. But we do not talk much about how this is going to help relieve operators from the administrative duties they currently face, enabling them to maximize their performance as operators. They will not have to worry about purchases, payments or suppliers anymore.

Q: What will be the role of the Procurement Division in the allocation of risk in E&P contracts?

A: PEMEX, from a risk-related and legal standpoint, has to match international best practices. It is clear we cannot ask a company to put its whole net worth at risk for one contract, such as Lakach, especially since nobody else is doing this in the world. This is driving companies away from operating in Mexico. For the past year, we have been pushing a joint effort between PEMEX Procurement International (PPI) and the users to make contracts resemble international best practices. This is part of PEMEX’s cultural transformation. The Risk Management Division, part of the Finance Department, needs to change its course to international standards. Our division will have a say in that. The legal and risk parts have to become supporting components, not drivers. These areas currently play a more prominent part in decision-making, not a support role. The business model should revolve around the needs that PEMEX has and acquiring the best conditions, while protecting the NOC.

Q: What real savings could PEMEX net from this adjustment?

A: PPI had a record year in 2013: we were involved in almost US$13 billion worth of ongoing procurement activities. Our estimated savings were about US$1 billion. Of the procurement activities that started and finished in 2013, we were roughly involved in about US$6 billion, compared to US$2.9 billion in the previous year – a dramatic growth with almost US$500 million in savings in 2013. We could net savings of between 5% and 20%. However, it is not just about savings. Having a more streamlined and efficient process will net additional indirect savings. Faster production is one example of this: if we are able to get equipment here eight months earlier, then earlier production should reflect the benefits. It all depends on what is being awaited. We find the more extreme cases among the bigger ticket items, which can take months to arrive. We have actually lost out on some equipment because a faster moving company bought it. PEMEX greatly suffers on a market where there is a short supply and a large demand. Our office can vastly reduce these timeframes by having a centralized procurement function, but also by streamlining PEMEX’s internal structure, which today consists of four subsidiaries with their own committees. PEMEX’s procurement operation will be more agile as the company will be structured upstream- downstream and that function will move away from being law-driven and toward being driven through internal control. At the end of 2015, we expect to be measuring our success through direct and indirect savings, cost versus benefits, and EVA.