International oil companies and foreign investors are excited by the huge step Mexico has taken to open up its energy sector to private participation.
Natural resource-rich countries in need of both capital and technology often promise to undertake this effort, but many don’t actually follow through. Mexican president Enrique Pena-Nieto has, however, stuck to his guns, said Dallas Parker, a partner in the law firm of Mayer Brown in Houston, and in early August, he signed into a law a series of new measures that will make it easier for international oil and gas exploration and production companies to come into Mexico.
“Mexico isn’t just opening the door a little bit. It’s pushing it wide open, and that’s an extremely exciting prospect for the oil and gas industry, as well as for the Mexican economy,” Parker said.
The energy reform plan is aimed at beefing up Mexico’s lagging oil and gas production. Mexico was “blessed with a number of large and very prolific shallow fields, both onshore and offshore, in the Bay of Campeche, and these worked great for 60 years of nationalization,” Parker said. However, after those fields ran out, there were no new ones to replace them, and over time, oil production has dropped significantly and continues to decline.
The current and first round of the energy reform program, Round Zero, allocates a number of prime oil and gas fields to Mexico’s state-owned oil company PEMEX, which has already made it clear that it intends to joint venture with international oil and gas companies to develop those, Parker said.
The Mexican government’s commitment to energy reform is already having positive repercussions on the economy. The value of the Mexican peso has increased and for investors like Brian Jacobsen, chief portfolio strategist at Wells Fargo Funds Management, the reform program also promises to open up many new investment opportunities in a range of different sectors.
“I think this will move the needle for growth for Mexico as a whole, and will open up the consumer discretionary sector, the industrials sector and other areas that can benefit from rapid growth, including the financial sector, which is another area that Mexico is trying to open up for more foreign investment.” Jacobsen said. “So from a portfolio perspective, energy reform means that Mexico becomes more interesting.” One major positive change Jacobsen expects to see is the increased competitiveness of Mexican manufacturing.
“Mexico already has cost advantages in terms of labor, which is cheap, but in terms of energy, they have had severe cost disadvantages,” he said. “Mexicans are paying twice as much for energy as in the U.S., so if energy reform will bring down energy prices, then combining that with lower labor costs could mean improved productivity and a major move in manufacturing from other low-cost centers like Vietnam—which has benefited as China has become more expensive — toward Mexico.”
Mexico will be a nice addition to the portfolios of global energy companies, said Will Riley, co-manager of the Guinness Atkinson Global Energy fund. Companies like BP, Chevron and Royal Dutch Shell, which have been successful in the Gulf of Mexico, can bring their expertise to Mexico, he said, as can more mid-size players such as Stone Energy.
As a sub-sector, oil services will also benefit, and companies such as Halliburton and Schlumberger, which have already been working with PEMEX, should see greater activity and new avenues for growth, Riley said.
However, new opportunities could also bring potential challenges, he believes, and it’s important for foreign companies to pay close attention to the bidding process and to eventual contracts, and be strict about their terms, so as not to risk getting burned.
That said, though, Mexico is taking all the right steps to ensure an inviting environment for both foreign direct investment and portfolio investors, Jacobsen said.
“Mexico has really improved its credibility in the global financial system and this type of pro-market move, which aims to stop the coddling of a major domestic industry, will further bolster its credibility internationally,” he said.
Even as a further rise in the value of the Mexican peso could present some challenges in the near-term by driving down the competitiveness of the country’s exports, “Mexico has an independent central bank and a pretty well developed banking system, so it has what it takes to deal with a stronger currency,” Jacobsen said.