Mexico’s Pemex: from cash cow to resource drain

At the end of 2016, Pemex came up with a new strategy: it would focus exclusively on profitable activities.
The plan, a no-brainer for most businesses, was a novelty for Mexico’s state oil company, a national champion created in 1938 after Mexico expropriated US and UK oil assets. Although it left the country’s six refineries working at half-capacity, they were finally back in the black after years of losses.
These days Andrés Manuel López Obrador, the president since 2018 who has bet the nation’s fortunes on Pemex, is pulling the company in the other direction again — even in the face of the coronavirus crisis and oil price collapse.

On Thursday it reported a $23bn quarterly loss, among the biggest in corporate history, with neither its upstream nor its downstream business making money at current prices. Annual losses had already doubled last year to $18bn and the group has amassed $105bn in debt along with unfunded pension liabilities of $77bn. Moody’s last month followed Fitch in cutting its credit rating to junk.
In a statement to the US Securities and Exchange Commission, Pemex acknowledged that its auditors, KPMG, had expressed “substantial doubt . . . as to our ability to continue as a going concern”.
But while other oil groups slash production and investment to weather the storm, Mr López Obrador is showing little appetite to deviate from his promise to revive Pemex by reversing 15 years of production declines.
“The rule book of what not to do is being written by Pemex,” said Pablo Medina at Welligence, an energy consultancy in Houston.
Defying pressure to match other countries’ pledges to cut output by nearly a quarter at an Opec-led meeting this month, Mr López Obrador reluctantly agreed only to a 100,000 barrel a day reduction, or about 6 per cent.

The president has also vowed to nearly double refining output to 1m barrels a day in May despite the fact Pemex’s lossmaking plants operated at a historic low of just 28 per cent capacity in February and that in the first quarter it cost Pemex $12.51 on average to refine every barrel of oil.

“At $20 Brent, there is not a single field in Pemex’s portfolio that is profitable when you consider costs and taxes . . . They lose on the upstream business just by producing,” Mr Medina said. “Now, they’re forcing Pemex to lose more in its downstream business because of negative margins. All for demand that may not exist.”
The reason for Mr López Obrador’s obstinacy is that Pemex has always been more than just an oil company. The group was created as a symbol of national sovereignty and Mexicans pitched in to pay for the expropriation “to consolidate Mexico’s economic independence” by donating everything from chickens to jewellery to the contents of children’s piggy banks.
The discovery of the giant Cantarell field in 1976 turned Pemex into Mexico’s cash cow. Production surged to a peak of 3.4m b/d in 2004 but was just 1.7m last year, down nearly 8 per cent on 2018.
Under the deal with Opec, Mexico will cut output to 1.681m b/d but the government’s 2020 national production target — on which budget sums are calculated — is 1.85m b/d, meaning Pemex will supply less revenue to national coffers than expected.
Dwindling production already meant Pemex funded only 11 per cent of the national budget last year, roughly a quarter of its contribution to government coffers in 2008, but with government investment to boost production, Mr López Obrador sees the state giant as the motor of national development.

The 66-year-old president, born and raised in the south-eastern oil state of Tabasco during Mexico’s boom years, has rebranded Pemex’s eagle and oil drop logo with the phrase “rescuing sovereignty”. That explains his drive to revive production growth at a company that has consistently made pre-tax profits but been bled dry by high government taxes and hamstrung by bureaucracy and corruption.
Achieving that will be costly.
“I think Pemex will need in the high teens billions of dollars [a year],” said one bond analyst who asked not to be named. “With oil prices where they are now, Pemex isn’t making any ebitda. It’s simple maths. The government is going to have to write some big cheques.”
The Treasury transferred $2.6bn to Pemex last month via a tax cut and the company has told investors it is cutting capital expenditure by $1.6bn and will focus on projects with the “highest economic rationale”.
“Today, more than ever before, Petróleos Mexicanos has the absolute support of the government of Mexico,” it said.
Fitch, which slashed the company’s credit rating to junk last summer and further downgraded twice last month, estimates negative cash flow of as much as $20bn a year.
Pemex has credit lines of $8bn, which analysts expect it to tap in full with $6.7bn in debt repayments due this year. After last month’s downgrade, Ariane Ortiz-Bollin, analyst at Moody’s, said it would now need “recurrent and substantial” state aid to the tune of 2 per cent to 3 per cent of gross domestic product this year.

Mr López Obrador boasted on the oil expropriation anniversary in March of $4-a-barrel production costs, but Mr Medina said the average including tax and operating expenditure was $32 per barrel of oil equivalent, and $47 if drilling costs were factored in.
When it comes to refining, “no one believes they can reach 1m barrels in May”, said one former Pemex insider. Refinery output was 580,400 b/d in February; Mr López Obrador claims it has since risen to 800,000 b/d.
There is an additional problem: the more Pemex’s plants refine, the more low-value fuel oil they produce, “so what comes out of the refineries is worth less than the oil that went in”, said Jorge Andrés Castañeda, an energy consultant. Markets for fuel oil are drying up after its use in shipping was banned.
In addition, Pemex has very little storage capacity and risks running out of space within weeks, according to analysts.
Reducing refining “is something I don’t think is compatible with their ideology”, said Ixchel Castro, an analyst at energy consultancy Wood Mackenzie.
But faced with cratering prices, one former senior Pemex official said the government should halt its controversial $8bn Dos Bocas refinery project and “come up with a real business plan that allows investors to understand where you are going to get returns at today’s oil price”.
That is easier said than done.
As one investor in company put it: “Pemex is a mess, it’s getting worse, and they have no plan to deal with things.”

Qantas shelves ‘Project Sunrise’ plan for world’s longest flights

Qantas Airways has shelved plans to launch the longest direct flights in the world and will review its fleet due to the collapse of international travel as a result of the coronavirus outbreak.
Alan Joyce, Qantas chief executive, said on Tuesday the airline was on track to reduce its cash burn rate to A$40m a week by the end of June, which would enable it to last out the pandemic that has grounded most of its flights.
But a full recovery in international travel could take years, he said, which meant the carrier needed to overhaul its operations.

“Very clearly the Qantas of 2021 and 2022 will not be the Qantas of 2019. We’re looking at the scope, the scale of our businesses going forward,” Mr Joyce said.
The decision to suspend indefinitely its “Project Sunrise” plan to fly direct from Sydney and Melbourne to European cities and New York is a blow for Qantas, which has invested significant resources in ultra-long-haul travel. It is also disappointing for Airbus, which won the contract to supply modified aircraft for the routes.
“We will be putting Project Sunrise on hold,” said Mr Joyce. “The time is not right now given the impact that Covid-19 has had on world travel. We certainly won’t be ordering aircraft for that this year.”
Qantas had intended to order 12 Airbus A350-1000 aircraft before the end of March to operate the world’s longest commercial direct flights, including the so-called kangaroo route between Australia and the UK. The carrier recently sealed a long-delayed industrial relations agreement with pilots to enable it to begin flying the routes.
Peter Harbison, chairman emeritus of CAPA — Centre for Aviation, a market intelligence group — said the economics of Project Sunrise and ultra-long-haul operations in general may have gone out the window for a long time due to Covid-19.

“Where a little token social separation might work for an hour’s domestic flight, the risks in sitting in the same aircraft for these ultra-long-haul commercial flights would require strenuous health and safety precautions that we haven’t yet worked out,” he said.

Mr Joyce said he was conducting an international fleet review due to the lack of clarity over when a full recovery would happen, and flagged the early retirement of some aircraft.
He also said Qantas would consider selling its 30 per cent stake in lossmaking subsidiary Jetstar Pacific, a low-cost carrier it established with Vietnamese Airlines in 2007.

Frequent flyer: goodbye gold card, so long silver

I discovered last week that, after nearly five years as a British Airways silver card holder, I had been demoted to bronze. It was more than I deserved. I had made just four short-haul return BA trips over the past year and expected to drop to basic blue. But BA operates a “soft landing”, letting passengers down gradually through the tiers.
My flying status is of no consequence, of course, when people are dying and millions are losing or expecting to lose their jobs, including almost 30 per cent of BA’s workforce. Many airlines may not survive this crisis.
But it prompted me to look at the approaches different carriers are taking to their regular customers. How are they trying to keep them loyal for the day when travelling recommences?

Several are simply extending their members’ frequent flyer status. Qantas is automatically renewing its passengers’ status for 12 months. Singapore Airlines is doing the same “in appreciation for our members’ loyalty”. American Airlines is giving an extension until the end of January 2022, while also reducing the qualification requirements for its various tiers of membership; it says it wants to show customers that “loyalty is a two-way street”.
Emirates, with whom I did my long-haul flying last year, is offering shorter extensions, until December, for those whose memberships expire between now and September. (My silver card runs out in November so, given the current travel outlook, by the end of the year I will probably be demoted by them too.)
BA is still helping its passengers who, unlike me, made good use of the airline over the past year, dropping the points required to attain or remain in its different levels by 30 per cent. It is also extending upgrade and companion vouchers earned through credit cards by six months, but it is not going as far as its competitors’ blanket extensions.

A McKinsey paper estimated there were enough frequent-flyer points in people’s accounts in 2017 to give almost every airline passenger in the world a free flight

Will this matter? It depends how much frequent flyer schemes influence buying behaviour. As German academic Andreas Knorr said in the Review of Integrative Business and Economics Research last year, airlines were pioneers in using customer data, beginning with Texas International Airlines, a small US regional carrier, in 1979. “Today, frequent-flyer programs are among the most successful loyalty schemes in business history,” Knorr wrote.
There have been two sides to the schemes. The first offers perks such as admission to lounges, the right to choose seats and get on the plane ahead of others. The second awards points that could be redeemed for free flights. The first remains valuable; the second less so.

As the schemes grew, there were so many frequent-flyer points around that airlines couldn’t honour them. It wasn’t just flying that gave you frequent-flyer points. Airlines made a fortune selling air miles to other businesses, such as credit card companies, to offer their customers. A McKinsey paper estimated there were enough frequent-flyer points in people’s accounts in 2017 to give almost every airline passenger in the world a free flight. It became hard for anyone to use their points to book a flight and impossible during busy times.
What will happen when this crisis ends? It depends how many airlines are still in business. There may be fewer flights on offer; prices may be high. Or, if passengers are too nervous to fly, airlines may be happy to let people use those accumulated air miles to fill the planes. Or there may be an upsurge of flying and passengers will return to the airlines that loyally extended their frequent flyer status.
In recent years, BA has worried less about customer opinion, relying on its dominant status at Heathrow. Whatever the post-crisis skies look like, it seems to be betting its frequent flyers will return.
Follow Michael on Twitter @Skapinker or email him at michael.skapinker@ft.com
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Argentina ready to consider ninth sovereign default, says Guzmán

Argentina’s economy minister has sought to raise the stakes with the country’s bondholders by suggesting his government would consider defaulting on $65bn of foreign debt unless investors engaged in negotiations to alleviate its financial burden while tackling the coronavirus pandemic.
Speaking to the Financial Times before the expiry on Friday of an offer involving a three-year debt service moratorium, Martin Guzmán said the government would not accept a deal “based on illusions and rosy scenarios” because it would herald yet another debt crisis in the future.
Asked whether a default was too great a price to pay for Argentina, Mr Guzmán said: “Every path is associated with trade-offs.”

Negotiations between the government of Peronist president Alberto Fernández and the country’s international creditors have been deadlocked after main creditors including US fund managers BlackRock, Fidelity and T Rowe rejected an offer that would involve the suspension of all debt payments for three years, a 62 per cent reduction in interest payments worth $38bn, and a 5.4 per cent cut in principal repayment, valued at $3.6bn.
Argentina must seal a debt restructuring accord with its biggest creditors before May 22 — the end of a 30-day grace period for payments it has already missed — if it is to avoid its ninth sovereign debt default.

Martin Guzmán: ‘We need to make sure we have the instruments to deal with the dramatic situation the country is going through. Doing something that just means hiding the problem under the rug would mean more agony’ © Agustin Marcarian/Reuters
But after snubbing meetings with the Argentine government last week, those creditors on Monday reaffirmed their opposition to the terms of Buenos Aires’ proposal.
“Indeed, some of our creditors have opted not to engage during the last week,” Mr Guzmán said. “We will continue working and engaging in good faith with our creditors with the goal of restoring debt sustainability.”
The 37-year-old economist said the bondholder group led by BlackRock had made a counter-offer that was “not even close to providing the relief that Argentina needed to restore debt sustainability”.
Part of the problem was that it did not include any reduction in principal or interest payments, only a rescheduling of interest payments equating to an estimated 8 per cent ultimate reduction in the value of the debt, he said.

Mr Guzmán insisted this was also the view of Argentina’s financial adviser, Lazard, and the IMF, which became the country’s largest creditor after lending it $44bn since a 2018 currency crisis. The IMF declined to comment. White & Case, which serves as the legal adviser to the group involving BlackRock, declined to comment, as did BlackRock, Fidelity and T Rowe Price.
An unsustainable debt burden would tip the economy into “freefall”, undermine the government’s ability to implement the policies necessary to deal with the economic crisis, and ruin the business climate for the private sector, Mr Guzmán said.
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“It will be better for everyone if this [deal] gets done sooner rather than later, but our efforts will not cease until we have solved the problem [of achieving debt sustainability],” he said. “It would be of little value to make a promise that we will be unable to fulfil.”
Analysts say a default would prevent Argentina’s government, regions and companies from tapping financial markets for credit. Foreign investment would dry up, hitting growth and tax collection. The central bank would be forced to print more money to finance public spending, in turn fuelling inflation and causing a potential capital flight and further weakness in the peso.
Looking worn down by months of talks with creditors, Mr Guzmán insisted there were still “multiple combinations of parameters” for a debt deal that “would work for us”.
In his high-ceilinged office overlooking the presidential palace in an unusually quiet downtown Buenos Aires, the minister kept repeating his goal was to restore “debt sustainability” to help reach a primary fiscal balance by 2023.
“There is flexibility within the constraints that we face,” said Mr Guzmán, rejecting creditors’ depiction that Argentina had presented them with a “take-it-or-leave-it” offer.

Argentina has been under strict quarantine restrictions since mid-March that will last until at least late May © Natacha Pisarenko/AP
Mr Guzmán — described by some investors as an ideologue with little practical experience — sought to defuse concerns that Argentina’s vice-president Cristina Fernández de Kirchner, who presided over the last sovereign debt default when she was president in 2014, might exert undue influence in the talks.
The whole ruling coalition is “absolutely committed” to an orderly resolution of the debt crisis, the minister said, adding that he had been working “extremely closely” with President Fernández “in every step of this process”.
Mr Guzmán rejected the notion, pushed by some debt restructuring experts and financial analysts, that it was best to wait for the economic outlook to clarify and Argentina’s economy to stabilise before sealing a deal.
Argentina has been under strict quarantine restrictions since mid-March that will last until at least late May. This has helped contain the spread of Covid-19. The country has recorded 250 deaths, compared with more than 7,000 in neighbouring Brazil.
But Mr Guzmán argued that the government needed financial room to deal with the fallout of the lockdown, which has deepened the country’s economic woes inherited from the previous administration of Mauricio Macri — including one of the highest inflation rates at about 50 per cent and poverty afflicting a third of the population.
“We need to make sure that we have the instruments to deal with the dramatic situation the country is going through,” he said. “Doing something that just means hiding the problem under the rug would mean more agony.”
Additional reporting by Colby Smith in New York