PEMEX's Financial Strategy Amidst Budget Cuts
STORY INLINE POST
Q: How has the Energy Reform changed PEMEX’s financial strategy to date?
A: The Energy Reform is of the utmost importance to Mexico and PEMEX. For the first time, after being a monopoly holder for the last 77 years, this sector is opening up to private participation and PEMEX will be able to partner with other companies. The problem of being a monopoly holder in a sector as regulated as the Mexican energy sector is that we had to invest in absolutely all activities along the value chain, even when we were not the most efficient producer in some of those sectors. With the opening of the energy sector, PEMEX will be able to focus on areas where it has competitive advantages and can create the most value. This also means Mexico will be able to attract companies with more expertise, higher efficiency, or better technologies, which might partner with PEMEX.
Q: What are the main differences between the perspectives of the Treasury and the CFO of PEMEX on the development of the Mexican oil and gas Industry?
A: These two roles agree that a strong PEMEX must be created so that it can invest in areas where it has a competitive advantage. Today, PEMEX has a negative capital but that could change if we are able to carry out our activities in a more profitable and efficient manner. In terms of the different timelines under which both roles must act, the Minister of Finance concentrates on the yearly budget, but he also cares for the long-term sustainability of the country’s finances. Moreover, the Ministry is part of PEMEX’s board, along with other individuals from the private sector. All of them understand very well that projects within PEMEX have to be visualized in the medium or long term.
Q: How have the MX$62 billion budget cuts imposed on PEMEX affected its ability to meet its investment targets?
A: In order to meet the financial goals established by Congress for 2015, PEMEX’s Board of Directors approved a budget adjustment plan that involved a 11.5% budget cut, equivalent to MX$62 billion (US$4 billion). This cut is consistent with the idea of maintaining a balanced financial position in view of current oil prices. However, while we implemented this budgetary adjustment plan, we aimed to minimize its impact on crude oil and gas production, on reserves replacement, and on the safety and reliability of PEMEX’s facilities. To generate additional savings, we have also begun the Austerity and Rational Use of Resources program.
Additionally, the Board of Directors urged PEMEX’s senior management to begin renegotiating contracts and fees along the entire supply chain in line with industry standards. Like many other oil companies, PEMEX is pursuing a strategy of renegotiating tariffs with its contractors. This strategy has been followed by PEMEX during other cycles, so it is involving its contractors in this process. We expect this low-price environment to continue for the next two or three years. This is a change in the environment which all participants need to face together.
Q: Is there an opportunity for PEMEX to truly pursue value creation in areas such as refining or petrochemicals?
A: Changes in areas like refining and petrochemicals will take place gradually. Over that time, Mexico will witness the entry of other participants in different sectors of the energy market. PEMEX will seek to partner with them to be able to create more value in areas that were not as profitable for us as a monopoly holder. We are also seeking to attract international funds to invest in areas such as the revamps of our refineries before signing a long-term contract with them. By doing so, these renewed refineries will contain new equipment and be able to provide the services that PEMEX needs. In this way, we can sign an agreement with such a fund for the next 10-15 years, ensuring that we will have modern refineries for that same timeframe.
Q: Under which conditions would PEMEX be interested in investing in unconventional resources, especially considering current oil prices?
A: It will depend on what other companies have to offer us. Our priorities are already set within our portfolio of upstream projects. There are some projects which we do not want to share with anybody, as we are certain that we have the expertise and the financial resources to handle them by ourselves. There are other areas where the capabilities of PEMEX may not be optimal but where we could add value by inviting other companies to work with us. That is the kind of analysis that we are currently carrying out for unconventionals.
Q: What makes PEMEX such a profitable company in terms of gross margin?
A: The nature of the areas where oil can be found here in Mexico is what makes PEMEX such a low-cost producer. In the case of Petrobras, for instance, its gross margin is lower because its cost of production is much higher. Once operating in the Mexican market, companies like Statoil, Petrobras, and Shell should be able to achieve the same margins as PEMEX if we compare the same areas. If these companies achieve higher margins than us, PEMEX should turn to them for advice to see what they are doing. Ultimately, I think they will be able to reach the same margins as PEMEX.
Q: As part of PEMEX’s budgetary autonomy, it can allocate money between CAPEX and OPEX. How will this help PEMEX run its finances more efficiently?
A: PEMEX will use its scarce resources in those activities which are more profitable. Part of the distortion in the past was that the company was forced to allocate some of its CAPEX to certain types of operational activities but that will no longer happen. PEMEX can now choose how to balance its operational activities and investment priorities.
Q: Why does PEMEX’s 2015 financing strategy have a strong focus on domestic and international bonds?
A: We always want to maintain a diversified base of investors within our debt portfolio. PEMEX is a company that has most of its receivables in US dollars, which is why we always use international markets. International markets, loans, and ECAs, account for more than 65% of our financing program. Approximately 80% of our debt is denominated in foreign currencies, particularly in US dollars. We also now have the ability to look at innovative financing structures, such as Master Limited Partnerships (MLPs) as these provide a way to monetize some of our assets and make resources available for investment in new projects. We are also looking to invite companies in joint ventures for some of the projects.
Q: How do you view the depreciation of the peso, given that most of your debt is held in US dollars?
A: For PEMEX the depreciation of the peso is good news, since it exports many products. Therefore, our exposure to the US dollar helps us in that sense. On the other hand, PEMEX’s debt is denominated in US dollars so that does not help us. Our financial statements will show both good and bad aspects. As for whether the peso will appreciate or depreciate, even the Central Bank does not comment on that so I cannot comment on the trends of the Mexican peso.
Q: What is your strategy in terms of hedging for currency risk and oil price risk?
A: In terms of currency risk, PEMEX’s debt is denominated in US dollars. If we issue debt in other currencies, then we always hedge to US dollars. That will continue to be the case as it has proven to be helpful in the past, if not this year since the dollar has appreciated. In terms of oil prices, PEMEX has no hedging program. If one looks at our balance sheet, PEMEX is an integrated oil company, with upstream, midstream, and downstream activities, which all move in different ways. This means that across our balance sheet many activities and assets result in a natural hedge for the company. While we were naturally affected by the 50-60% reduction in oil prices, it did not impact us as much as it could have.
Q: In the long term, PEMEX could perhaps sell some non-strategic assets. How could this help the company strengthen its capital position?
A: It will depend on how profitable the projects are. This is also related to the list of investment projects that we are currently working on, some of which are more profitable than others. If we have to sell some of our assets, we will sell those that represent a less profitable position for the company. We cannot comment on which assets we could sell to get resources but the logical idea would be to sell less profitable assets.
Q: What was the reason for delaying the farm-out process and when should the industry expect these opportunities to truly appear?
A: Some of the farm-outs will be signed within 2015. Since this is the first time PEMEX has carried out farmouts, it involves a difficult process during which we must be careful about negotiations. We would rather have a good negotiation process, involving the rate of return for private companies, than a fast one. One has to propose an interesting rate of return, according to the level of risk that various companies will take on. For some areas, the risk will be higher, which will also be factored into the negotiations.
Q: Which role will PEMEX’s existing pension liabilities play in its future and how will changes in the pension scheme affect current and future employees?
A: In accordance with the law, we will make no changes affecting people who already receive a pension. We are addressing this issue by deciding on a new pension regime with new parameters for all future employees. Currently, the parameters for getting a pension are 25 years of seniority within the company and being at least 55 years of age. We want to increase those parameters for new employees. The challenge is what to do with current PEMEX employees. If we are able to increase those parameters for current PEMEX employees, we will generate a lot of savings. Negotiations are under way, we need to talk to the union about these concerns, but it is indeed a very important issue for the financial health of the company. The problem is that the pension scheme of PEMEX is outdated as its parameters date back to 1942. If we move to a new pension scheme, we are going to follow the example of other companies, leading us to a more normal methodology for our pension system. We are looking to increase the pension requirements to 30 years of seniority within the company and being at least 60 years of age. These changes will not affect how PEMEX will retain the best talent.
Q: Do you agree with the widespread belief that 2015 is a bad year even though PEMEX is also receiving one of its highest investment budgets ever?
A: I think the low-price environment is certainly not good news for any oil company. However, with the Reform we have the tools to face much better a low-price environment, and we will make use of them. Thus, I believe there are also important opportunities in the new environment we are facing.