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Multiple Challenges Seen to Investment in Mexico

Natural gas production and demand in Mexico is forecasted to continue growing, but it will be more slowly than the government predicts, an industry consultant told NGI. Meanwhile, the country's long-standing prohibition against foreign ownership of oil and gas resources and widespread drug cartel-related violence will hobble development that Mexico needs, he said.

"I think we're just going to see prolonged reduced economic development and [natural gas] demand [in Mexico], said Ziff Energy Group's David Grevelle, the firm's Houston-based director of gas services.

"At the end of the day, they've got a lot of debt at [state-owned Petroleos Mexicanos] Pemex; they need the money to come in from the oil and gas for their revenues, but they've got to make big investments to do that...They tried to say, 'We want foreign investment to come in,' but they basically effectively do not allow foreign ownership of oil and gas properties and that fundamentally is huge...I don't see that changing anytime soon. The pain would have to get very great for that to happen."

And even if foreign ownership of reserves were allowed by a change to the country's constitution, drug violence would keep business away, said Grevelle, noting that Mexico is where Colombia used to be in terms of its drug war. "You continue to see people that are very experienced in that area and have been going for years to not go anymore," he said. "You see families that lived in Monterrey forever buying up five, six, seven, eight houses in Austin or Houston and moving the whole family there."

Recently Mexico Attorney General Arturo Chavez -- who had been viewed as ineffective in combating the country's drug violence -- tendered his resignation, making him the second to resign the post under President Felipe Calderon's administration. Organized crime prosecutor Marisela Morales was nominated to replace Chavez; if confirmed, she would be the first woman to hold the post.

Ziff recently completed its "Mexico Natural Gas Outlook to 2020." Grevelle said the firm projects that Mexico gas production and demand will grow about 3%/year on average to 2020. Demand will be driven by gas-fired power generation and oil production that requires the use of natural gas. Mexico will continue to be a net importer of gas.

"Their domestic production probably won't keep up with their demand, so they will probably have to augment through importing from the U.S. or bringing in LNG [liquefied natural gas]," Grevelle said.

In a reserves report released last Wednesday Pemex said that as of Jan. 1 proved natural gas reserves totaled 17,316 Bcf, 62% of which is gas associated with oil. Of Mexico's total proved gas reserves, 57% are located onshore, while the remaining 43% are offshore, Pemex said. Last year proved gas reserves increased by 502 Bcf, or by 3% compared to 2009.

Proved, probable and possible (3P) gas reserves totaled 61,275 Bcf, Pemex said. Of 3P gas reserves, 70% are onshore. According to Pemex, last year 3P gas reserves increased by 39 Bcf, mainly resulting from new discoveries of 2,724 Bcf offset by production of 2,562 Bcf. In 2009 3P gas reserves totaled 60.4 Tcf and grew to 61.2 Tcf in 2010 and 61.3 Tcf this year, Pemex said.

Despite significant reserves, the country has positioned itself to be a large importer of LNG through the development of regasification facilities over recent years -- not unlike the United States. Grevelle said Mexico had been hoping to import LNG and then export the regasified product to the United States. That seems unlikely now given the cheap shale gas revolution in the Lower 48 and the fact that U.S. LNG import terminals are running far below capacity, he said.

LNG imports to Mexico aren't likely to meet as much marginal demand as pipeline gas from the United States, Grevelle said. "We think they were trying to back out U.S. supplies [with LNG], but in the end the low-cost shale, particularly that located in southern Texas, is going to be very cost-competitive, and for a couple of their LNG facilities that will probably make it hard for them to utilize those at a high rate."

Over the period of the Ziff study, imports of gas into Mexico are expected to increase "slightly." Ziff differs from the Mexican government, which forecasts greater LNG imports for regasification and export to the United States as well as more robust demand from gas-fired power generators, Grevelle said. "We're showing about 20% less gas-fired generation demand than they are, mainly due to the turmoil in that country and the safety issues," he said.

Cross-border pipeline capacity exists to allow for about 3 Bcf/d of U.S. exports to Mexico, but over the last decade or so exports have ranged from 200 MMcf/d to just over 1 Bcf/d, Grevelle said. However much is shipped to Mexico in the future, the Eagle Ford Shale play in South Texas is an attractive supply source.

In fact, the Eagle Ford stretches into northern Mexico where in the state of Coahuila Pemex said last month it extracted its first Eagle Ford gas from an exploratory well. The company said it will further evaluate the potential of the area. However, the threat of violence in the region could be a hindrance.

"There are thoughts that the Eagle Ford play comes down into Mexico," Grevelle said. "You would think, 'wow, wouldn't that get a lot of interest from people,' but even Pemex comes in on the Texas side to get around so their guys don't get shot on their side. It's just a long ways from making it a favorable investment."

According to Grevelle, overall Pemex drilling activity will likely be 40% less than it had forecasted for this year. "Reality is creeping in quickly," he said. "If they don't continue to drill, the production and reserves can come off tremendously."

For now, gas supply growth is expected to continue, Grevelle said. "Any decrease in supply or increase in demand, we think, will be met though U.S. imports as that capacity is still underutilized," he said. And that brings up another issue with Mexico: cross-border contracting isn't the same as doing business within the United States.

Grevelle said he used to trade in Europe. "The farther east you got, you dealt with governments...They're just not as concerned with paying on time. I think Pemex is pretty good overall, but it's still different from selling to Exxon.

"We'd love to see Mexico prosper and do well; it's hard to see some of the turmoil that's going on right now. But it's also reality."

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