Mexico Energy Reform proposals: three positions

The Mexican Constitution and the current regulatory legal framework restrict the participation of private investors in the upstream, midstream and downstream activities in the oil and gas sectors, which are solely carried out through Petróleos Mexicanos (Pemex), the national oil company. The electricity sector, currently under the control of the State through the national electricity company (Comisión Federal de Electricidad) ("CFE"), is also in need of investment to increase capacity to meet the country's rising demand. In this bulletin we comment on the recent energy reform proposals, due to be discussed in the Mexican Congress during September 2013.

During the last few weeks, Mexico's main opposition political party (Partido Acción Nacional – PAN) and Mexican President Enrique Peña Nieto unveiled their respective proposals for energy reform to the Mexican senate. The President's proposal is backed by the Partido Revolucionario Institucional (PRI), Mexico’s ruling political party.The Partido de la Revolución Democrática (PRD), the third political force in Congress and the largest left-wing party in the country, also submitted its proposal for energy reform to the Senate. These reforms are already causing an increasing public debate among politicians, analysts, economists, activists, and journalists. The energy reform proposals of the President and the PAN contemplate amending the Mexican Constitution and the implementation of new secondary laws. The proposal submitted by the PRD, on the other hand, does not involve amending the Constitution but rather amending several existing secondary energy laws. The proposals submitted by the PAN, the President and the PRD are expected to be discussed in Congress during September 2013.

The proposals of the President and the PAN aim to modernise Mexico's energy sector and make it more efficient in an effort to attract private investment to the sector, principally foreign investment. Although using different approaches, both proposed reforms purport to turn Pemex into a more competitive company with a larger production capacity, as well as reducing electricity and gas prices. The proposals, however, seem to fall short of the expectations of international players who have argued  for more profound changes in the Mexican energy sector.

The PRD's proposal is more limited than the others. It seeks to modernise Pemex and improve its administration but does not require amendments to the Constitution to allow additional private investment in the oil, gas and electricity sectors. The PRD reaffirms Mexico'sexclusive ownership of natural resources and its exclusive right to operate the oil, gas and electricity sectors.

1. Peña Nieto´s Proposals

The President's proposal:

  • Allows Pemex to enter into Production Sharing Agreements: The proposal calls for the amendment of Article 27 of the Mexican Constitution to allow Pemex to partner with third parties to develop specific exploration and exploitation projects through Production sharing agreements. The amended Article 27 would reaffirm Mexico’s ownership of its hydrocarbon resources and prevent payment using hydrocarbon resources thus eliminating the possibility of having concession contracts. The President's proposal also seeks the amendment of Article 28 to open the midstream and downstream sectors to private and public companies. These particular amendments would be steps towards the return of the energy sector to the status created by Mexican President Cardenas in 1938: exploration and production of hydrocarbons were considered as the function of the State, while storage, transportation, refining, processing, commercialisation and petrochemical were considered industrial activities and thus open to private investment;
  • Seeks to restructure Pemex: The President wants to eliminate the current fragmentation and reorganise Pemex into two divisions to improve efficiency and streamline the decision-making process across the company. These units would comprise Pemex Exploration & Production, which would be in charge of the upstream area (the same as Pemex's existing subsidiary Pemex E&P) and Pemex Industrial Transformation which would be in charge of the downstream sector (to include the existing refining, petrochemicals and gas and basic petrochemicals subsidiaries);
  • Proposes fiscal reform of Pemex: The proposal criticises Pemex's current applicable fiscal regime and suggests a different corporate tax treatment –to be defined by subsequent legislation- in line with the practices for other international oil companies. This flexibility will allow Pemex to be more competitive, align incentives with the Federal Government and have additional funds to be reinvested or transferred to the national budget for other uses such as infrastructure, health and education;
  • Includes a commitment to improve transparency and accountability in the hydrocarbons sector: The President proposes to improve transparency and accountability within the sector by strengthening the Federal Government, the National Commission of Hydrocarbons (Comisión Nacional de Hidrocarburos) and the Energy Regulatory Commission (Comisión Reguladora de Energía) by amending the corresponding secondary laws; and
  • Seeks the Electricity Reform: The President proposes to open the electricity generation market to the private sector through additional amendments to Article 27 of the Constitution. The Mexican State would maintain exclusive control of the National Electricity System as well as the transmission and distribution of electricity. The national electricity company, CFE would be fortified with the provision of additional structural and operational flexibility. The proposal would guarantee all suppliers access to the national electrical grid. The reform also favours sustainability that could lead to more investment in technological development and adoption of cleaner sources of energy. The reform promotes the use of cleaner and cheaper sources of energy, such as solar, gas and wind.

2. The PAN´s Proposal

The main opposition party's proposal:

  • Implements a Concession Regime: The proposal would, by amending Article 27 of the Constitution, open all energy sectors to private investment and competition. If adopted, this proposal would eliminate the current constitutional restriction on granting oil and gas concessions. Thus, private and public operators –in addition to Pemex- would be able, after payment of relevant fees and taxes, to own hydrocarbons at the wellhead;
  • Establishes the National Hydrocarbons Commission: The reform proposes the creation of an agency to be responsible for regulating the exploration and exploitation of hydrocarbons, including the grant of oil and gas concessions. The concession regime would, during the initial phase of granting concessions, include a "special proceeding" to assign Pemex certain concessions to guarantee Pemex's dominance and preferential treatment over other operators. After this "special proceeding" Pemex would compete with the other operators on equal terms in public bidding procedures, which would be open to public and private parties and public-private associations;
  • Reforms the Electricity Sector: The PAN seeks to open the generation and marketing of electricity to private investment in order to fulfill the rising demand for electricity. Under this proposal, the Energy Regulatory Commission (Comisión Reguladora de Energía), would regulate the electricity sector –from generation, transmission and distribution to marketing of electricity. CFE would compete on equal terms with the other operators in the sector;
  • Creates the Mexican Oil Fund: The PAN proposes the creation of the Mexican Oil Fund (Fondo Mexicano del Petróleo) to administer and maximise oil profits. The fund will receive and administer all fees paid by operators. The creation of this fund is intended to improve the administration of the reserves and Pemex’s profits, and contribute to decreasing the dependence of the Government on oil revenues over a 10-year transitional period over which a portion of the fees would still be allocated to the federal budget. During this period, the Federal Government would also reduce Pemex's labour liabilities;
  • Provides additional autonomy to Pemex and to CFE and changes their corporate governance policies: The reform will provide PEMEX and CFE with additional autonomy and improved corporate governance. Under the PAN's proposal, each of PEMEX and CFE will have "operational autonomy" to determine their "best structure" and neither one of them would be part of the Federal Budget. The management and planning of each of Pemex and CFE would be the responsibility of its board of directors. These boards would be required to follow international corporate governance practices. The board would be structured as follows: five independent members, four government members and the Minister of Energy as chairman. Under the proposed structure, there would be no representation of the unions. The CEO of Pemex and CFE would be selected by the board of directors; and
  • Emphasises sustainability: The reform underlines the importance of sustainability and the need for adopting policies to mitigate and adapt to climate change. The proposed amendment to Article 25 of the Constitution provides for the State to guarantee that energy development is integral, sustainable and seeks the reduction of emissions of gas and greenhouse gases.

3. The PRD´s Proposal.

The Partido de la Revolution Democrática's proposal:

  • Converts Pemex into a public company: The PRD proposes to make Pemex an independent company and curtail the current dependence on Pemex’s revenue by the Federal Government. Pemex would have budget autonomy and be able to manage its own operations. The PRD also proposes to eliminate Pemex's current subsidiaries;
  • Modifies Pemex's corporate governance: The number of directors would be reduced from fifteen to nine, including the removal of the Secretary of the Treasury and union representatives from the board;
  • Changes Pemex's fiscal regime: The proposal seeks to reduce the current tax burden on the company and to give Pemex autonomy to invest its resources in research, development and training of human resources within Pemex;
  • Proposes the creation of an Oil Fund: This fund will receive any oil surplus revenue to secure a steady flow of revenue to the Mexican Government;
  • Converts CFE into a public company: The PRD wants CFE to have its own independent budget and to reorganise its corporate governance. CFE would be required to seek the reduction of greenhouse gases and promote the use of clean energy sources in the generation of electricity;
  • Sets exploration objectives for Pemex: Pemex would be required to increase exploration to replace one hundred per cent of its proven oil reserves, while moderating its operations to extend the life of the oil reserves;
  • Changes for the National Hydrocarbons Commission (Comisión Nacional de Hidrocarburos): The PRD proposes to give more power to the Commission to oversee the sustainability of oil exploitation and the fulfillment of the Pemex's exploration objectives; and
  • Seeks to guarantee sustainability of non-renewables: The PRD seeks to promote the efficient use of energy and the transition to clean energy technologies.

CONCLUSION

Despite the significant differences among the three proposed energy reforms, they constitute an important step forward in modernising the Mexican energy sector. The energy reform will be the largest and arguably the most important reform undertaken by the incumbent government to date and are likely to be the most difficult one to implement. A heated debate is expected among the three leading political forces in the country. The debate will also be shaped by other social and political forces and players such as labour unions and interest groups, as well as a general feeling of distrust against the government and a deep sense of nationalism engrained in general public opinion. We cannot predict yet what the ultimate scope of the reform will be but it is clear that the following months will be decisive in delineating the future of the energy sector in Mexico.