Progress: A Gas Pipeline Deal Reached

A heated battle between the Mexican government and a collection of natural gas pipelines has finally settled. Mexico’s wealthiest individual and major player in the oil and gas sector, Carlos Slim, led the charge for the private sector to come to terms with President Lopez Obrador on revised economic terms. Slim’s Grupo Carso SAB was the first to reach an agreement, along with Sempra Energy’s IEnova and Canada’s TC Energy Corp which were awarded contracts to build, operate and deliver much needed natural gas to Mexico via a network of pipelines supplied by connections to the United States.

Most of the network of pipelines is complete or close to being finalized. The largest of these pipelines is the $2.5 billion Sur de Texas to Tuxpan pipeline built by TC Energy to transport 2.6 billion cubic feet (bcf) per day of U.S. natural gas via a pipeline built on the floor of the Gulf of Mexico from Brownsville, TX, to Tuxpan, Mexico. That project was completed in June but has yet to initiate service.

The agreements were necessary for both sides, Mexico needs the gas and the pipe owners need to put those new lines in service and start recouping their multi-billion dollar investments. Is there a winner and loser in the accord? It isn’t cut and dry but the agreements do provide some answers for the market.

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Delivery of Much Needed Natural Gas

At the end of the day, the agreement for revised economic terms will hopefully resolve the fundamental problem that began these projects. Mexico desperately needs an affordable and dependable supply of natural gas to support the electric generation market and industrial consumers. The United States, Texas, in particular, is awash with natural gas production during the ongoing shale production boom. With total production exceeding 90 bcf per day and domestic consumption of approximately 80 bcf per day, the U.S. has turned towards the export market. Direct connectivity to Mexico is an ideal partnership.

Win for Mexico, Win for Pipes, Win for U.S. Gas Producers

 

An Economic Win

The head of the CFE, Manuel Bartlett, said the $4.5 billion savings foreseen in the renegotiation should be viewed against an original cost to the utility of $12 billion under the contracts. That’s a significant savings any way you cut it. The reduced revenue definitely impacts the economic returns the pipeline owners had planned on, but the long-term value of connecting a burgeoning supply center with an increasing demand market should provide ample opportunity to attain a sufficient return on investment.

Win for Mexico

 

A Warning for Investors

Yes, the negotiations got done. But in the grand scheme of things, the message to foreign investors is still to proceed with extreme caution. In the less than the twelve months that AMLO has been in office, the government has canceled an already underway airport improvement project valued at $13 billion; slammed the breaks on any new oil exploration farmout agreements; reviewed the contracts and harassed existing farmout partners to expedite production; and now strong-armed a group of heavy hitter infrastructure players into eating $4.5 billion of future revenue AFTER all of the capital was in the ground.

Much like the natural gas supply/demand balance between the U.S. and Mexico, the list of projects in Mexico that require significant capital and the demand by foreign investors to deploy capital in long term infrastructure projects seems a natural fit. However, the risks associated with cutting a deal with Mexico are quite large. When making billion-dollar investment decisions how do you assess the risk of contract cancellation or price renegotiation? 

Loss for Mexico, Lost Opportunity for Investors

 

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Best,

Chad Smith
Senior Vice President of Terminal Services