On the bright side, it’s not bankrupt – according to the new CEO

By Don Quijones, Spain & Mexico, editor at WOLF STREET.

For the last 77 years, Mexico’s state oil company, Pemex, has almost single-handedly funded the economic development of the world’s 15th largest economy. But now the national treasure is drowning in debt. In 2016, over $11 billion of the company’s corporate bonds will mature and need to be refinanced. In total, the company will need to raise about $23 billion in 2016, in a market that has grown wary of over-indebted, over-leveraged oil giants. If it succeeds, its debts will reach $100 billion.

“At the current prices, the quality of Pemex’s credit will deteriorate significantly in 2016 if it does not make drastic cutbacks,” warned Moody’s, which maintained the company’s outlook as negative.

Given that in the first nine months of 2015, the company lost 352 billion pesos ($19.4 billion), and that for this year’s budget, it had assumed an average Brent crude price of $50, the company will have a daunting enough challenge just making it to the end of the year intact. But Brent is now at $33 a barrel, and Mayan crude is about $10 less.

On the bright side, it’s not bankrupt – according to its new director (and former World Bank official), José Antonio González Anaya. “Pemex faces liquidity problems, but it does not have a solvency problem,” he said. But to remain viable it must “make adjustments.”

Those adjustments will include laying off thousands, if not tens of thousands, of workers. According to El Financiero columnist Enrique Quintana, Pemex will also need to divest its biggest loss-leading operations, including its refineries (the company imports 48% of the petroleum products it sells in Mexico), and petrochemical and gas divisions. Meanwhile, it should focus its attention on production and exploration, its two most lucrative areas of operation, which provided combined profits of $11 billion during the first nine months of 2015.

By all indications, Pemex’s new management and the government are in full agreement. In other words, the world’s second largest publicly owned company is about to be broken up into pieces and privatized, a word that Mexico’s public representatives still dare not use in public. Throughout the negotiation phase of Mexico’s oil reforms, signed in 2014, the Peña Nieto government refused to use the “P” word, recalls Laura Carlsen, director of the Americas Program for the Center for International Policy in Mexico City.

Mexican government officials reject the term “privatization” for the proposed scheme. When oil and gas is in the ground (and has no monetary value), they say, it belongs to the Mexican people; when it is extracted and worth millions, then it belongs to transnational corporations. They also note that Pemex, the state energy company, is not being sold outright, although they admit that many of its assets could be sold in the future.

Which is what is happening now. After decades of mismanagement, malinvestment and corruption, Pemex is about to be fractured into pieces, to be sold to foreign investors, possibly at rock bottom prices at the worst possible time.

According to many critics, this was the plan all along: successive governments have purposefully weakened Pemex by failing to invest its revenues in future operations and expansion while siphoning out cash and loading the company up with an unsustainable debt load.

They could have a point: since Enrique Peña Nieto came into power three years ago, Pemex’s debt has ballooned by 45%, from $60.4 billion to $87.3 billion. Meanwhile, in the last year alone, the company has had to pay a higher proportion of its revenues in taxes than ever before, precisely at a time when its revenues are shrinking, while foreign companies are given huge fiscal incentives to invest in Mexican oil fields – including the possibility of 100% deductions on their operations.

The situation is likely to get worse this year, PRD senator Dolores Padierna warns. She predicts that by the end of 2016, Pemex will have run up an annual deficit of around 500 billion pesos ($27 billion) — an unprecedented amount for any oil company. “Pemex will not generate enough resources to cover even its operational costs and spending, let alone its investments.”

Desperate times call for desperate measures. This week bankers agreed to extend a $1.35 billion loan to finance the private equity group KKR’s purchase of Pemex assets, including 11 pipelines, one set of subsea cables, 2 non-drilling platforms, and one gas compression facility.

Under the terms of the sale-leaseback agreement, Pemex sells the assets to KKR but continues to operate and maintain them. It will make lease payments to KKR during the 15-year life of the agreement, after which time it will buy back the assets. The transaction is a means to quickly monetize Pemex’s assets, reports Reuters. But over the long term, the debt will continue to grow, and the leases are expensive. For Pemex, a true sign of back-against-the-wall desperation.

For KKR, which has already lost billions in the U.S. energy sector, it’s another risk worth taking. The deal is likely to set a precedent for other PE firms looking to get their feet in Pemex’s door. BlackRock, First Reserve, and Swiss-based private equity firm Partners Group have all expressed a keen interest in Mexico’s newly liberalized energy sector.

This is the second dimension of Mexico’s oil privatization scheme. As The Wall Street Journal reports, much of the growth in oil production, in the middle of a terrible glut when production should be cut, comes “from companies that need to sell shares, take on debt, or sell assets to plug a gap between spending and their revenue,” and they cannot cut production. But in the case of Pemex, as in many other places, the gap may be too wide to plug, but that doesn’t mean that the “smart money” that got burned so badly in energy so far won’t try to make a buck in the interim. By Don Quijones, Raging Bull-Shit.

As Pemex is teetering, tensions are rising in Mexico’s model economy. Chief among them is the spectacular crash of the peso. Read…  Dollar Crushes Mexican Peso as Problems Balloon

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