Business Risk Profile
PEMEX is the largest company in Mexico and is one of the largest oil companies in the world, with average daily production in 2005 of about 3.33 million barrels of oil equivalent per day, 4,818 million cubic feet per day of natural gas, and 435,000 barrels per day of natural gas liquids. As such, the company plays a key strategic role in the Mexican economy in terms of hard currency generation through its substantial crude oil exports, which reached approximately $35.2 billion, as well as its position as the single-largest taxpayer in the country, representing an average of one-third of the government's revenues in the past decade.
PEMEX's credit quality benefits from Mexico's extensive proved developed and undeveloped reserve base of about 16.47 billion boe (if determined in accordance with Rule 4-10(a) of Regulation S-X of the Securities Act of 1933, which is the reporting standard of the U.S. SEC) and combined oil, gas, and liquids production that places the company among the largest oil companies in the world. PEMEX's export platform of 1.9 million boe per day places Mexico among the top five exporters of crude oil to the U.S.
In contrast to other governments around the world that opened their oil sectors to private participation, Mexico remained committed to excluding private capital from many aspects of the sector, particularly the upstream business. This policy is supported by the Mexican constitution, which reserves the country's mineral wealth for the state, as well as by a political climate that would make it difficult to reverse the policy. As a result, PEMEX has been obligated to fund, and assume the full risk of, costly upstream development programs without the benefit of foreign partners' lower-cost capital and technical expertise.
Increasing production and improving the reserve replacement rate, which remains weak relative to those of other issuers, has been the focus of the current management of PEMEX. Although the company's goal to increase crude oil production to 4 million boe per day and to improve its reserve replacement rate toward 100% have been below initial expectations, some progress has been made since 2000. During the past five years, crude oil production increased to 3.3 million boe per day from 3.0 million boe per day and the proved reserve replacement rate (as a percentage of production) moved to the mid 20s during the past couple of years from negative territory in 2001.
Table 1 PEMEX Operating Peer Comparisons
Chevron Corp. BP PLC Exxon Mobil Corp. Royal Dutch Shell PLC ConocoPhillips Pemex
2004 2004 2004 2004 2004 2005
Total oil/liquids & gas reserves (mil. boe) 11,252.17 18,018.50 21,711.33 12,264.00 8,745.63 16,470.00
Total developed oil/liquids & gas reserves (mil. boe) 7,830.00 9,834.83 13,709.50 7,343.67 6,188.50 11,364.30
Total oil and gas reserves (% developed) 69.59 54.58 63.14 59.88 70.76 69
Total oil and gas production (mil. boe) 867.5 1,451.50 1,591.00 1,358.67 612.87 1,604.00
Oil/liquids as % of total production 72.16 61.94 58.77 60.65 62.61 75.8
Reserve/production ratio (years) 13 12.4 13.6 9 14.3 10.3
Proved developed reserve production (years) 9 6.8 8.6 5.4 10.1 7.1
One-year replacement (%) 49.1 106.5 96.2 38.5 209.9 26
Of particular concern among industry observers is the production curve of the Cantarell complex in the Gulf of Mexico. Cantarell consists of the Akal (a giant oil field that holds about 90% of reserves in the Cantarell complex), Chac, Kutz, Nohoch, and Sihil fieds.
Table 2 shows PEMEX's largest proved reserves by field as of December 2004.
Table 2 Pemex Proved Reserves By Field
(Mil. boe)
Akal 6,592.80
Ku-Maloop-Zaap 1,618.40
Samaria 1052.2
Jujo-Tecominoacan 888.5
Chicontpec 776.6
Iridie 548.5
Cunduacan 422.1
Sihil 307.8
Total 12,206.90
The complex has been operating since the late 1970s and PEMEX has indicated that its production rate will decline toward 1.4 million boe per day between 2006 and 2009 from 1.9 million boe per day. As of first-quarter 2006, production at Cantarell was about 1.9 million boe per day.
The company's strategy to offset the decline in Cantarell during the next three years is centered around the development of a number of complexes, particularly Ku-Maloob Zaap. PEMEX should meet the reduction of roughly 475,000 boe per day in Canterall by increasing production at Ku-Maloob Zapp from 383,000 boe per day to 790,000 in 2010 and reaching peak production at Antonio Bermudez, Jujo-Tecominoacan, Bellota, Chinchorro Ixtal, and other projects by 2008.
Table 3 Current And Projected Production
(000s boe per day) First-quarter 2006 2008
Antonio Bermudez 140 161
Jujo-Tecominoacan 54 88
Bellota Chinchorro 15 53
Ixtal Manik N.A. 55
Total 209 357
N.A.–Not available.
Table 4 shows PEMEX's largest proved undeveloped reserves by field as of December 2004.
Table 4 Undeveloped Reserves By Field
(Mil. boe)
Akal 1,144.90
Ku-Maloop-Zaap 747.5
Chicontpec 684.1
Samaria 627.2
Jujo-Tecominoacan 400.5
Over the longer term, we believe that investments will be directed toward developing reserves in the deepwater Gulf of Mexico, as prospective reserves in the region are significant. According to the information derived from studies by PEMEX, prospective resources in the region are about 29.3 billion boe. The aforementioned is significant when compared to Mexico's total reserve base (which includes proven, probable, and possible reserves) of 50 billion boe.
We also consider it probable that in the following years PEMEX will undertake the construction of a new refinery to better serve the growing needs of the domestic market for refined products. Currently, the largest project in the PEMEX refining system is the $2.4 billion three-year upgrade of the Minatitlan refinery.
Financial Risk Profile
The company's policy is considered aggressive given the heavy tax burden that is shouldered by PEMEX. The United Mexican States is the sole owner of the company, and it determines PEMEX's financial policy. PEMEX's budget is incorporated in the budget of the Mexican government, which is proposed by the Ministry of Finance and Public Credit and approved by the Mexican Congress. The Mexican Congress also approves the designation of certain projects as PIDIREGAS.
Our concern regarding PEMEX's financial performance is around the company's after-tax cash-flow generation. As evidenced by the group's financial measures after taxes, the heavy tax burden shouldered by PEMEX has forced the issuer to increase its bank and capital markets debt substantially to fund its capital expenditures. Although the changes to PEP's tax regime should allow the group to improve its operating cash flow generation, it is unlikely that the group's key financial measures after taxes can improve substantially. Based on a rough estimate of PEMEX's future cash-flow generation, we anticipate that transfers to the government (excluding the IEPS tax) should exceed $30 billion per year during the next three years and that the issuer will increase its financial debt by at least $10 billion to finance a capital expenditure program of about $12 billion per year during the period. Our estimates consider that PEMEX's production platform remains around 3.3 million boe per day and that WTI prices will remain above $40 per barrel. Based on the aforementioned, PEMEX's FFO-to-total debt ratio will be between 5% to 10% during the next three years and the group will continue to post negative free operating cash flow, which highlights the need for further changes to improve the issuer's financial performance.
The group's capital structure features three financing vehicles established to raise funds in the international and domestic capital markets.
The PEMEX Project Funding Master Trust and the Fideicomiso F/163 are PEMEX's main funding sources. Both trusts are designed to fund the payment of PIDIREGAS commitments, which is a financing scheme that treats certain long-term infrastructure projects as off-balance-sheet items for budgetary purposes by the Mexican government. The designation of a project as a PIDIREGAS project is important given that the financing is immune from across-the-board budget cuts by the Mexican government. In 2006, 84% of PEMEX's $13.0 billion CAPEX program will fund PIDIREGAS projects. While PIDIREGAS commitments are considered off-balance-sheet items by the Mexican government, the corresponding expenditures and liabilities are included by PEMEX in its financial statements.
PEMEX Finance Ltd. is the other major capital markets financing vehicle available to PEMEX. PEMEX Finance is a limited liability company established to issue up to $7 billion in senior unsecured debt. The proceeds of such debt have been used to purchase current and future receivables generated from the sale of Maya crude oil produced and exported by PEMEX. Obligations of PEMEX Finance, which are not guaranteed by PEMEX, are supported by the collection of these receivables. (See related research on PEMEX Finance Ltd.)
PEMEX's minority interest in Repsol YPF was leveraged through the issuance of guaranteed exchangeable bonds issued by RepConLux S.A. The bonds are exchangeable into shares of Repsol YPF or cash, at the option of PEMEX.
Tax regime
The tax regime for PEMEX Exploracion y Produccion that was approved by the Mexican Congress in 2005 was designed to switch the taxable income of PEMEX to a proxy of its operating cash flow, from its consolidated revenues. Another important departure pertains to the fact that the most of the applicable taxes on hydrocarbon production are now established outside the Ley de Ingesos de la Federacion (i.e. the budget) and should not change from year to year.
The Fiscal Reform of Dec. 21, 2005, established the following duties that will be applied in the future:
Ordinary Hydrocarbon Duty: a variable rate between 88% and 79% paid on the difference between the value of the crude oil and natural gas extracted during that year and E&P costs, capital expenditures and some duties;
Hydrocarbon Duty for Stabilization Fund: a rate between 1% and 10% paid when the weighed average price of the barrel of crude oil exported is higher than $22.00;
Extraordinary Duty on Petroleum Exports: 13.1% of the difference between the actual value of crude oil exports and the estimated value considered in the Ley de Ingresos de la Federación; and
Other duties, among them the Additional Duty, to be applied when crude oil production is below estimates.
Also, PEMEX remains subject to the IEPS, which was not changed with the reform.
IEPS tax. The Special Tax on Production and Services is an indirect tax on domestic sales of gasoline and diesel that PEMEX-Refining collects on behalf of the Mexican government. The IEPS Tax on the sale of gasoline and diesel is equivalent to the difference between the international reference price of each product and the retail price of the product. The Mexican government ensures that PEMEX retains an amount reflecting the international prices of these products, while the Mexican government collects the difference between the international prices and the price at which these products are sold in Mexico.
Accounting
The company began to recognize the effects of inflation on its financial statements in 2003. To facilitate the comparison to prior-year financial statements, we analyze PEMEX based on a convenience translation to U.S. dollars based on the end-of-period exchange rate between the Mexican peso and the U.S. dollar. We used to adjust a number of items in PEMEX's balance sheet to reflect their debt-like nature. Nevertheless, PEMEX now reports most of the items that were previously adjusted (particularly the accounts of PEMEX Finance) as debt on its financial statements. The major adjustment that we make today to the figures pertains to the pension liability and the Certificates of Contribution A, which we treat like debt obligations. The impact of the aformentioned is a $45 billion jump in total debt that increases the total debt-to-EBITDA ratio of PEMEX to 2.0x from 1.0x.
The Certificates of Contribution A. PEMEX seldom pays extraordinary dividends to the federal government; however, it makes a regular dividend payment related to the CAPs. The CAPs arose as part of the 1989-1992 Mexican Brady Plan in which $7.58 billion of PEMEX's external commercial bank debt was taken over by the federal government and consolidated with the government's debt to be restructured within that plan. Subsequently, the debt the government assumed on behalf of PEMEX was capitalized in the form of the CAPs, and PEMEX agreed to pay a "minimum guaranteed dividend" to the government that was equal to the scheduled debt service on the capitalized debt.
Table 5 Financial Statistics
--Fiscal year ended Dec. 31--
Rating history (LC) A-/Stable/-- (FC) BBB/Stable/-- (LC) A-/Stable/-- (FC) BBB-/Stable/-- (LC) A-/Stable/-- (FC) BBB-/Stable/-- (LC) A-/Stable/-- (FC) BBB-/Stable/-- (LC) BBB+/Stable/-- (FC) BB+/Positive/--
(Mil. $) Average of past three fiscal years 2005 2004 2003 2002 2001
Sales 65,923.8 85,482.3 64,918.7 47,370.5 35,300.2 38,224.0
Net income from cont. oper. (4,000.05) (7,011.98) (1,268.26) (3,719.92) (2,933.34) (3,576.35)
Funds from operations (FFO) 4,363.2 (322.95) 6,817.4 6,595.2 4,434.6 3,554.3
Capital expenditures 8,691.4 7,679.4 8,515.1 9,879.5 9,823.9 4,296.8
Total debt 81,815.5 94,396.0 80,485.6 70,564.8 41,527.3 17,403.5
Common equity (5,624.47) (10,979.01) (2,585.14) (3,309.26) 5,620.8 13,413.3
Oper. income/sales (%) 59.2 58.5 60.5 58.7 52.8 49.0
EBIT interest coverage (x) 11.6 9.5 14.6 13.2 8.6 9.3
EBITDA interest coverage (x) 12.8 10.3 15.9 14.9 10.2 11.0
Return on capital (%) 48.7 59.7 51.3 35.1 25.8 29.0
FFO/total debt (%) 5.3 (0.34) 8.5 9.3 10.7 20.4
Total debt/EBITDA (x) 2.1 1.9 2.0 2.5 2.2 0.9
Total debt/capital (%) 107.4 113.2 103.3 104.9 88.1 56.5
Table 6 Peer Comparison
Petróleos Mexicanos Chevron Corp. ConocoPhillips Exxon Mobil Corp.
(LC) A-/Stable/-- (FC) BBB/Stable/-- AA/Stable/A-1+ A-/Negative/A-2 AAA/Stable/A-1+
(Mil. $) 2005 2004 2004 2004
Sales 85,482.3 142,897.0 118,719.0 263,989.0
Net income from cont. oper. (7,011.98) 13,034.0 8,107.0 25,330.0
Funds from operations (FFO) (322.95) 14,328.5 12,502.0 35,171.1
Capital expenditures 7,679.4 6,769.7 9,181.8 11,486.0
Total debt 94,396.0 13,161.2 17,145.2 12,167.0
Common equity (10,979.01) 45,230.0 42,723.0 101,756.0
Oper. income/sales (%) 58.5 15.4 14.6 18.2
EBIT interest coverage (x) 9.5 38.6 13.0 25.3
EBITDA interest coverage (x) 10.3 41.9 14.6 27.7
Return on capital (%) 59.7 32.4 22.4 32.4
FFO/total debt (%) (0.30) 108.9 72.9 289.1
Total debt/EBITDA (x) 1.9 0.6 1.0 0.3
Total debt/capital (%) 113.2 22.5 28.1 10.3
--Average of past three fiscal years--
Sales 65,923.8 115,839.7 86,574.0 218,699.0
Net income from cont. oper. (4,000.05) 7,197.3 4,471.3 19,100.3
Funds from operations (FFO) 4,363.2 11,876.1 8,368.6 27,995.7
Capital expenditures 8,691.4 6,781.7 6,900.0 12,234.4
Total debt 81,815.5 15,216.5 20,201.7 14,186.8
Common equity (5,624.47) 37,709.7 35,535.3 88,756.0
Oper. income/sales (%) 52.4 15.1 14.5 16.5
EBIT interest coverage (x) 12.4 21.9 8.2 24.1
EBITDA interest coverage (x) 13.7 28.0 10.6 26.6
Return on capital (%) 48.7 22.9 15.9 26.4
FFO/total debt (%) 5.8 78.0 41.4 197.3
Total debt/EBITDA (x) 2.2 0.9 1.7 0.4
Total debt/capital (%) 107.1 28.6 35.7 13.3