[1]In 2013, the Mexican Congress approved constitutional amendments to open oil & gas exploration and production to foreign investment, ending the monopoly of Petróleos Mexicanos (Pemex). In the second half of 2015, the Comisión Nacional de Hidrocarburos (CNH), the entity created by the Ministry of Energy to supervise the award of E&P blocks to private companies, completed the first three phases of auctions. Private companies are now setting up operations, and more auction rounds will continue into 2016 and beyond.
For companies winning these opportunities, the corruption risk landscape is proving to be somewhat new. Traditionally, the participation of oil and gas companies in the country has been limited to providing goods and services to Pemex, who served as the country’s only operator. Service companies grew well accustomed to the types of FCPA risks at play on the ground – hot spots like hospitality expenses with Pemex officials, payment demands by local highway police, or the required use of licensed customs brokers, some with questionable practices. These types of bribery risks will continue for the new private operators. Operators should expect new risks as well.
To begin, operators should recognize that, to many, they have bullseyes on their backs. Reform is still highly controversial – this is the first time since the end of the Mexican Revolution in 1938 that foreigners have been permitted to invest in the country’s energy resources. Labor unions, nativist politicians, and local governments could take it upon themselves to thwart the new energy program with accusations of corruption. Add to this the fact that the Mexican Government seems to still be finding its way in setting up the new regime. This means that companies face elements of uncertainty in the rules. The resulting picture is a challenging one for outsiders. Below is a list of some of prominent corruption risks that appear to be emerging in this new terrain:
- Auctioning of E&P Blocks. Any time governments extend valuable opportunities to private companies, the potential for grand corruption is created. In the case of Mexico, all indications so far are that CNH personnel are highly careful and sensitive to potential corruption accusations in their administration of contract awards. They have as much on the line in making sure the program works as the bidders. A breakdown at the block award level could doom the entire reform system. As a result, companies are finding that CNH is taking a sophisticated and transparent approach to the auction process. The interactions between companies and CNH are governed by strict rules – for example, CNH keeps logs and meeting minutes, some meetings are recorded and the recordings shared with participants, and CNH is rejecting offers of travel benefits from private companies.
Nonetheless, given the monumental scale and value of the contracts at issue, the chances are that someone from the Ministry of Energy or the private sector at some point will seek manipulate the system and benefit improperly through back channels. Despite the professionalism of the current process, companies should be on guard for potential abuse.
- Satisfying Regulatory Requirements. The good news for companies so far is that CNH has tasked itself with obtaining many of the licenses and permits that winning companies need at the federal level to operate blocks. This helps mitigate government touchpoints and resulting corruption risk. But companies still need to engage other regulatory officials, such as the Secretariat of Environment and Natural Resources and the Ministry of Energy for environmental and socio-economic impact assessments, and regional and municipal officials for local permitting. Complicating the picture is the fact that some regulatory requirements are new and still under development, creating uncertainty and room for discretion. When rules are less clear, there is more room for improper influence through bribes.
- Use of Third Parties/Vendors. To do their work, operators need to rely on a host of third parties and vendors. This includes everything from consultants to engage port officials when setting up and running shore bases, to suppliers of equipment, to accounting firms for administrative support. Some of these entities will interact with government officials on the companies’ behalf, creating the potential for indirect bribe payments. Even if a provider is not interacting with officials, there is still the risk that it could be owned or related to a government official, and its use seen as a way of conveying a benefit to the official. Local content requirements, which will increase to 35% by 2025, put further pressure on the use of local entities.
Some operators will choose to mitigate these risks by relying on full-service, integrated providers to handle a large portion of their needs. This approach mitigates the time and resources necessary to vet and monitor each third party, since it essentially outsources the activity. Companies will instead need to ensure that the integrated provider has an appropriate anti-corruption compliance program in place to vet subcontractors that is adequately implemented. This approach is also more expensive. Alternatively, companies might choose to manage all third party relationships themselves, to save money. While this approach is more cost effective, it requires more heavy lifting on compliance to ensure that the company is protected.
- Cost Recovery Efforts. Companies operating blocks are required to submit detailed cost accounting reports to Mexican regulators as part of a cost recovery regime. This might lead companies to adopt a false sense of security, since regulators will be scrutinizing expenditures for them. Companies might wrongly assume that Mexican officials would catch and reject red flag expenditures suggestive of improper payments. Companies should understand that, despite this regulatory oversight, they still need to have robust internal controls in place calibrated to detect potential bribery issues when reviewing invoices, employee expense reports, petty cash practices, and other transactions. This is because the nature of the Mexican Government’s review will likely not be focused on corruption issues. If an improper payment were to slip by, the fact that expenses have been reviewed by Mexican authorities would not be an adequate defense in the eyes of FCPA enforcement officials.
- JV Partner Risks. A common model for performing E&P contracts in Mexico is through joint operating agreements involving multiple parties. Non-operators can be liable for the corrupt activities of operators, depending on their levels of control and participation. They are expected to take steps to ensure that the block’s operation is guided by sound anti-corruption compliance practices. Operators themselves can also be liable for the bribe payments of non-operators if the payments are made to benefit the venture. For example, some ventures involve the participation of local Mexican companies that could be positioned to benefit the venture with improper payments made to influence energy policy or commercial arrangements related to the venture. In this way, both operators and non-operators should take steps to ensure that their partners are appropriately vetted for reputational risks and have compliance programs in place, and that written venture agreements have adequate compliance commitments and mechanisms.
Another key risk for companies relates to the changing role of Pemex in the local landscape. Pemex-related risks are discussed in a follow up post [2].
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