For the past seventy-five years, Mexico’s oil and gas reserves have been a highly-coveted but untouchable resource that private energy companies could only dream of tapping. That changed late last year, when lawmakers passed watershed legislation that did away with the state oil monopoly and allowed production sharing with the private sector. Soon, foreign companies will be able to bring in best-in-class technology and know-how that the country urgently needs to tap both its deep-water and shale fields, with the goal of wresting Mexico’s energy industry out of a state of persistent decline. While that’s a big deal in and of itself, it’s not even close to the whole enchilada. The potential impact of the energy bill and other recently passed reforms promises something much greater than that—nothing short of a wholesale paradigm shift for Mexico’s economy.
Stifled by a lack of competition in many sectors, Mexico’s economy has been a laggard in the Latin America region, with GDP growth averaging a lackluster 2.6 percent between 1994 and 2013. The energy legislation could increase annual real GDP growth by an average of 0.7 percentage points between 2015 and 2018, according to the government. Add that to the impact of other recent reforms to the labor market, telecommunications sector and financial industry, and potential annual real GDP growth could be 1.7 percentage points higher – some 4.5 percent per year over the medium term. “If that happens, the reforms will clearly benefit the whole population,” says Alonso Cervera, who oversees Credit Suisse’s economic research for Mexico.
Source: Government of Mexico, Credit Suisse
How exactly will the energy reform boost growth? At the most basic level, it could increase oil output to as much as 3.5 million barrels per day by 2025. That would be a dramatic turnaround: Mexico’s daily output has fallen from 3.3 million barrels per day in 2004 to just 2.5 million today due to a combination of depletion of current fields and significant underinvestment. By inviting multinationals in to explore deepwater fields in the Gulf of Mexico as well as shale areas along the U.S.-Mexico border, the country could attract new foreign direct investment of some $10 billion a year. And that, the government hopes, could create 2.5 million new direct and indirect jobs by 2025. “There will be reverberations around the economy from the increase in jobs,” says Christian Gomez, director of energy for the Council of the Americas.
The expected jolt to both economic and job growth should bolster Mexico’s burgeoning middle class and generate increased consumer demand, thereby boosting revenue for retail companies, and in the process attracting investor interest in both private and publicly-traded beneficiaries. Smaller Mexican energy companies participating in the industry’s growth will also be candidates for public offerings, which would help to diversify a Mexican stock market that has traditionally been dominated by just a handful of big names. Last year, Infraestructura Energetica Nova SAB, the Mexican unit of U.S. natural-gas utility Sempra Energy, became the first-ever Mexican energy company to trade publicly on the Mexican Stock Exchange, or Bolsa. “The Bolsa was controlled by the same names forever and there were years when there were no IPOs,” says Cervera. “The biggest impact of the structural reforms on financial markets should come from the new names looking to access funds either in the debt or equity markets.”
Local bond markets also stand to see increased activity. Smaller Mexican firms specializing in E&P and services are likely to raise capital locally to fund their expansion, as are restaurants, hotels, transportation and construction companies aiming to service the growing energy sector. Mexican energy firms will also be looking to raise money in international markets as well. Deepwater drilling contractor Grupo R SA de CV, for example, sold $950 million of bonds last year.
Mexico’s Congress still needs to approve so-called secondary legislation that will provide the legal framework to implement the energy reform and, until that happens, this is all just a vision of a more profitable future. International firms will be looking for Mexico to provide legal certainty, a sensible tax regime, and flexible local content rules—the requirements governing required participation of Mexican companies in new energy projects. While lawmakers originally aimed to pass the legislation in April, Cervera expects action by July or August. At that point, Mexico can begin its attempt to transform itself into an ‘Aztec tiger.’
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