ENERGY ALERT

September 5, 2017

ENERGY ALERT Recent developments in the Oil & Gas industry in Mexico: 1) Mexican Ministry of Finance announces tax benefits for Pemex Asignaciones; 2) The CNH approves changes to the Ayín – Batsil farm – out bidding terms; 3) The Mexican Ministry of Energy approves an extension period for 101 exploration Asignaciones; 4) The Ministry of Public Administration approves a Social Witness for the CNH bidding process; 5) The CNH submits an opinion regarding the contract model for Round 3.1

Summary • This past August 18, the Mexican Ministry of Finance (SHCP, Spanish acronym) published a decree granting tax benefits to Pemex Exploración y Producción related to the operations carried out in its Asignaciones. • On August 24, the governing body of the National Hydrocarbons Commission (CNH, Spanish acronym) submitted an opinion on the contract model proposed by the Ministry of Energy (SENER, Spanish acronym) for the Round 3.1 shallow water blocks. • On August 28, based on the recommendations provided by the CNH, the SENER decided to grant a two-year extension to the exploration period for 101 Asignaciones. • This past August 29, the governing body of the CNH approved changes to the contracts covering the Ayin–Batsil Farm - Outs. The CNH also authorized the contracting of a Social Witness (as previously approved by the Ministry of Public Administration – SFP, Spanish acronym) for the bidding process to be carried out in October to select the Government’s next hydrocarbon marketer. 1) Tax benefits for PEP´s Asignaciones As mentioned above, the SHCP published in the Mexican Official Gazette a decree granting tax benefits to Asignatarios (i.e. Pemex and any other State-owned productive enterprise holding an Asignacion title and operating in the block corresponding to the Asignacion area). Below we have included the most relevant aspects of the decree; nevertheless, we recommend a detailed analysis of the provisions set forth therein. The tax benefit granted consists of an increase in the percentage of the cost deductibility cap for purposes of calculating the Government Profit Share fee. The decree establishes the following amendments:

In order to apply the tax benefit, Pemex must submit before the Revenue Department of the SHCP a validation request within the first quarter of the applicable fiscal year. In this regard, this request must contain the following: ► • Operating expenses, investments and drilling wells considered in the hydrocarbon reserve economic valuation, as well as the physical activities scheduled. • 1p and 2p hydrocarbons reserve value within the Asignacion area. • Annual observed and expected hydrocarbon production profile within the Asignacion area, with classification of production as oil, associated and non-associated natural gas and condensates. • Documentation proving that Pemex has submitted the accounting records and other required information to the Mexican Petroleum Fund (MPF) and the tax authorities. • Documentation establishing approval of the measuring points proposed by Pemex. • Documentation proving that the accumulated production within all of the Asignaciones subject to the tax benefit does not exceed 150 thousand barrels per day of oil and condensates, and 500 billion BTU per day of natural gas in the applicable fiscal year. • Hydrocarbon production economic valuation for each Asignacion subject to the tax benefit, including: I. Economic results demonstrating that the production within the Asignacion may be profitable before paying taxes and considerations to the government, applying a 10% discount rate. II. III.

Economic results proving that the production within the Asignacion after paying taxes and considerations to the government is NOT profitable, applying a 10% discount rate and the tax benefit exemption granted by the decree. Economic results showing that the production within the Asignacion after paying taxes and considerations to the government is indeed profitable, applying a 10% discount rate and the tax benefit granted by the decree.

It is important to remember that these amendments represent the second tax benefit granted to Pemex for purposes of computing the cost deductibility cap. In the first instance (i.e. December 2016), the SHCP establish that the cost recovery limit could be selected as the higher of either the applicable percentage of hydrocarbons and the contractual value of such hydrocarbons, calculating the former as the product of produced barrels of oil equivalent per day times the price established by the SHCP. This latter modification was subsequently incorporated at the level of the Revenue Hydrocarbons Law. 2) Extension of the exploration period granted to Pemex Asignaciones This past August 15, the CNH released the results of its assessment of the verification of the Minimum Work Commitment for 103 Pemex exploration Asignaciones. Based on this assessment (and the related recommendations provided) on August 28, the SENER decided to grant a two-year extension to the exploration period for 101 Asignaciones.

In this regard, in accordance with the 6th transitory article of the constitutional reform, Pemex will have two years following the date the extension was granted to declare a commercial discovery in the Asignacion, at which point, based on this discovery declaration, Pemex may request to SENER to change the Asignacion Title from exploration to extraction. In other words, if there is no declaration of commercial discovery by the end of this period, the Asignacion may not be transferred to the extraction stage and PEP shall forfeit the Asignacion. Therefore, given the current level of compliance with the physical goals and the brevity of the additional period that was granted, it is expected that many of the Asignaciones will be migrated to Farm - out processes, seeking out a partner in order to increase the investment and develop commercial discoveries. 3) Amendments to Ayín-Batsil Production Sharing Contract Based on the recommendations submitted by the SENER, this past August 19, the CNH approved a series of changes related to the Ayin-Batsil Production Sharing Contract: 1) Standardization of the term for submitting the Appraisal Plan for CNH approval. a. The term was increased from 90 to 180 days following the declaration of discovery. 2) It was clarified that regarding the current discovery that is in this field, an Appraisal Plan should be filed within the next 180 days after the Effective Date of the contract. 3) It was confirmed that in the case of PSC´s, after carrying out the abandonment activities, any remaining funds in the abandonment trust shall be turned over to the Mexican Petroleum Fund. 4) Elimination of obligation to perform specific activities in order to comply with the Minimum Work Program working units during the exploration and appraisal period. a. The obligation to comply with the working units is now only restricted to the following number of working units during the Exploration and Appraisal period, and can be fulfilled with any of the activities referred in the Appendix of the PSC:

4) Social Witness for CNH bidding process On August 29, as previously approved by the SFP, the governing body of the CNH authorized the contracting of a Social Witness for the bidding process to be carried out by this commission to select the Government’s next hydrocarbon marketer. In this regard, the bidder that is awarded this process shall sell the hydrocarbons received by the Government as a result of the considerations (in kind) paid by the production sharing contractors. It is important to recall that due to the Mexican Energy Reform process, in December 2016, the CNH named PMI Comercio Internacional, S.A. de C.V. (Pemex affiliate) the State’s hydrocarbon marketer for the production sharing contractor considerations; nonetheless, in accordance with the 8th transitory article of the Mexican Hydrocarbon Law, as of 2018, the marketer is to be selected through a bidding process. In view of the above, this bidding process is currently in the preliminary stage. For better analysis of the process, please find below the bidding calendar provided by the CNH during the 9th CNH ordinary governing body session:

5) CNH submits opinion on the contract model for Round 3.1 Earlier this month, the SENER submitted a project for incorporating 35 shallow water blocks into the bidding process corresponding to Round 3.1. In this regard, in order to carry out the exploration and extraction activities within these areas, the Ministry of Energy proposed that the production sharing contract model be considered for the 35 blocks. On August 24, the governing body of the CNH presented the results of the assessment carried out to evaluate the feasibility of assigning the SENER’s proposed contract model. Due to the characteristics of the blocks, the assessment was divided into three sections based on a geographical distribution, as follows: 1. Burgos province

Potential Round 3.1 contractual areas

2. Tampico – Misantla – Veracruz province

Potential Round 3.1 contractual areas

3. Southeast basin province

Contacts: Alfredo Alvarez [email protected] Potential Round 3.1 contractual areas

Rodrigo Ochoa [email protected] Enrique Pérez-Grovas [email protected] Javier Noguez [email protected] Rodrigo Mondragón [email protected]

Based on this assessment, the initial position of the CNH was to recommend that the Ministry of Energy assign different contract models to each of the blocks, as follows:

Jimena González de Cossío [email protected] José Fano [email protected] Yuri Barrueco [email protected] Elizabeth Ceballos [email protected] Salvador Meljem [email protected]

However, based on the discussions during the session, the governing body of the CNH concluded (in a non-uniform way) that it would recommend that the SENER assign the License contract model to ALL of the Round 3.1 blocks, although allowing the State to request that the contractor pay the considerations in kind. It is important to mention that the exact size and number of areas comprising Round 3.1 is not yet certain; nevertheless, the provinces (Burgos, Tampico–Misantla-Veracruz and Southeast basin) and block type (i.e. shallow waters) will not change.