Pemex Woes Snowball as Cash Crunch Deepens Production Plunge

  • Morgan Stanley sees dramatic production drop in coming years
  • Cash flow gap forecast to reach record $22 billion this year

Petroleos Mexicanos’ deteriorating finances are poised to get much worse, signaling no end in sight to years of declining oil production.

The company’s output may dwindle to about 1.6 million barrels a day by 2020, less than half its 2004 peak, because it lacks the technology and funds to revamp aging fields, Morgan Stanley analysts led by Martijn Rats said in a July 24 report obtained by Bloomberg. Pemex has had cash flow shortfalls for the past three years, and this year the gap will almost double to a record $22 billion, from $13 billion in 2015, according to data and estimates compiled by Bloomberg.

Once a bigger supplier to the U.S. than Saudi Arabia, Mexico’s weight has waned as the shale boom reduced American imports and the oil crash dealt a blow to hopes of luring billions in foreign investment. The country is now stuck in a vicious cycle where declining revenues from its traditional cash cow have led the government to slash Pemex’s budget, reducing further its ability to reverse the fall-off. Given insufficient liquidity and investment, Pemex will continue to shrink as it fails to restore output in areas where it lacks technical expertise, the Morgan Stanley analysts said.

“We expect some mind-the-gap issues, the private sector being hesitant in terms of long-term commitment in Mexico,” the analysts said. “Lower oil prices have exposed important shortfalls that will need to be addressed over the coming years.”

‘Reform 2.0’

The Morgan Stanley output estimate for 2020 would represent a decrease of about 700,000 barrels a day from current levels. The continued output declines have exposed flaws in the fiscal framework of the country’s 2014 regulatory overhaul that ended decades of state monopoly to seek much-needed foreign investment, according to the report. Those flaws are likely to require modification or an "energy reform 2.0," the analysts said.

The investment bank expects “a revised energy reform to be on the agenda for the next administration beyond 2018," requiring provisional measures such as additional capital injections from the finance ministry.

On May 15, the Finance Ministry assumed 184.2 billion pesos ($10 billion) of Pemex pension liabilities and transferred 47 billion pesos in bonds known as Bondes D to the company in an effort to boost its liquidity. The government also gave Pemex a capital injection of 73.5 billion pesos to pay off outstanding debts to oil service providers and absorb some of the company’s pension liabilities in April.

The cash flow shortfalls, which mean the company is spending more than it earns from operations, will further complicate efforts by Chief Executive Officer Jose Antonio Gonzalez to seek joint ventures, stabilize production and improve ailing refineries. The company’s total debt has ballooned to almost $100 billion, and it may lose its investment-grade rating from Moody’s Investors Service, which has put it on a negative watch for a possible downgrade. Pemex has also had to weather cuts of 162 billion pesos from its budget in the past two years amid the oil market rout. It’s output is set to decline for a 12th straight year.

Tax Burden

“The sharp decline in oil prices that began in late 2014 has had a negative impact on our ability to generate positive cash flows,” the company said in a May filing. A “heavy tax burden” limits Pemex’s ability to fund capital expenditures and the company “will need to raise significant amounts of financing from a broad range of funding sources,” according to the filing.

Pemex forecasts production to fall to about 2.1 million barrels a day this year, which the company aims to stabilize and slowly increase in the following years, according to an e-mailed response to questions.

Pemex’s cash gap contrasts with positive projections for Russia’s Rosneft PJSC and Colombia’s Ecopetrol SA and far exceeds an estimated $1.4 billion cash flow shortfall expected for Petroleo Brasileiro SA and the $1 billion dollar deficit for Argentina’s YPF SA, according to analysts’ estimates compiled by Bloomberg.

"There is little chance that Pemex will be able to slow the decline of production in the short term," George Baker, an analyst and publisher of Mexico Energy Intelligence, said in a phone interview. "There are opportunities to increase production, but there isn’t the money to do it."

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