THE MEXICAN RETAIL FUELS REVOLUTION - MEXICAN OIL DEREGULATION OPENS DOOR FOR NEW FUELS MARKETERS AND RETAILERS

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THE MEXICAN RETAIL FUELS REVOLUTION - MEXICAN OIL DEREGULATION OPENS DOOR FOR NEW FUELS MARKETERS AND RETAILERS
Energy

THE MEXICAN
RETAIL FUELS REVOLUTION
MEXICAN OIL DEREGULATION OPENS DOOR
FOR NEW FUELS MARKETERS AND RETAILERS

AUTHORS
Bob Orr, Partner
Karina Swette, Principal
THE MEXICAN
RETAIL FUELS REVOLUTION

As Mexico deregulates its oil industry, it is opening the largest fuels marketing and retail
opportunity on the horizon.

For the first time, foreign companies will be allowed to own fuels assets, and companies can
sell fuel branded and sold by suppliers other than Pemex. The downstream will open to new
fuels marketers and new retail fuels offerings, changing the market landscape and the value
distribution among participants.

While most deregulation talk focuses on upstream, Oliver Wyman forecasts that significant
structural changes in the downstream fuels sector will create high-value opportunities
for companies willing to commit to the Mexican market and work through market
evolution challenges.

Mexican fuel consumption is forecast to grow by roughly 3 percent annually, a rate twice that
of global demand growth and at a higher rate than the top five fuel-consuming countries.
Fuel site throughputs are 30 percent higher than other mature markets, fuel prices are
20 percent higher than in the US, and convenience store penetration is low, at roughly
50 percent of fuel stations. Oliver Wyman estimates that by the turn of the decade, the
number of fuel sites could grow by more than 40 percent.

Fuels marketers and retailers should pay attention to Mexico. It is the sixth-largest consumer
of motor gasoline and diesel and one of the final developing markets to deregulate, allowing
foreign companies to import, own assets, and sell other fuel brands.

Copyright © 2015 Oliver Wyman                                                                    2
ATTRACTIVE FUELS MARKET DYNAMICS
AND STRUCTURE

The Mexican downstream fuels market should be very attractive to newcomers and local
participants alike, driven by key fundamentals.
••   Strong growing consumption and increasing imports
••   High fuels site volumes
••   Price levels and structure that could create substantial margin
••   Fragmented wholesale and retail markets structure
••   Limited consumer choice, allowing new entrants to bring new offers

GROWING MARKET WITH HIGH LEVEL OF IMPORTS
Mexicans consume more than 750,000 barrels of gasoline per day, ranking the country sixth
in global market demand. Such demand growth will likely lead to an increasing reliance on
imports. With oil prices in the US dropping, US refiners that have access to cheap crude will
continue to increase fuels exports, and Mexico is their closest and largest import market.
Imports already account for 48 percent of Mexican fuel consumption, and Oliver Wyman
forecasts that will rise to as much as 60 percent of total consumption by 2020.

Exhibit 1: Mexico domestic gasoline consumption and imports
THOUSANDS OF BARRELS PER DAY, 2004–2020

1,200
                                                             Projection
                                                                                      Total consumption

                                    2.2% CAGR
  600                                                                                 Total imports
                                                                                    60%

                                                           48%
                                    9.2% CAGR

     0
         2004        2006        2008        2010   2012    2014      2016   2018   2020

Sources: Pemex, EIA, and Oliver Wyman Analysis

Copyright © 2015 Oliver Wyman                                                                             3
HIGH FUELS SITE VOLUMES
The number of retail fuels stations in Mexico is controlled by the government and stands at
just over 10,000 sites. As demand has increased without a parallel growth in the number of
stations, Mexico now has one of the highest average volume throughputs per station in the
region and globally, at 5 million liters per station. Moreover, the average throughputs within
larger Mexican regional markets, including Mexico City, are more than 6 million liters per
station, 50 percent higher than the average for neighboring US regions, creating attractive
site-level economics. In addition, several of these Mexican regional markets must use
imported fuels products exclusively, compounding the tension in supply-demand dynamics
and driving a potential structural change.

Exhibit 2: Average annual consumption per region of Mexico and throughput
MILLIONS OF LITERS, 2013, INCLUDING GASOLINE AND DIESEL

                                                                                          Mexico: 5.0
                                                                                          Germany: 4.5

                                                                                          Chile: 4.5
                                                                                          US: 3.3
            6.0                  5.9

                                                     4.4                4.2
                                                                                 3.8      UK: 2.0
                                                                                          Italy: 1.6

         Northeast             Central             South/          Northwest   Central/
                                                  southeast                     west
            25%                 24%                 18%                 17%     16%

                                       Percent total volume in Mexico

Note: UK excludes supermarkets in average
Sources: Country government reports, Oliver Wyman analysis

Copyright © 2015 Oliver Wyman                                                                            4
PRICING OPPORTUNITY
The Mexican government sets fuel prices and has steadily increased prices over time.
Historically, this meant that the Mexican government was subsidizing fuel prices. However,
that has reversed in recent years. In April 2012, gasoline prices in the US averaged $3.84
per gallon while the equivalent gallon of Pemex Magna in Mexico was $2.64. That’s a $1.19
difference. But with recent global crude prices dropping, the price per gallon in the US has
declined to $2.59, on average, while the pump price in Mexico has reached $3.11. That’s
20 percent higher and creates arbitrage opportunities in certain regions.

Exhibit 3: Comparison of gasoline prices
INDEXED, 2005–2015 (2005 = 100)

300
                                                                                     53 cents-per-gallon
                                                                                     price premium
250

200                                                                                                        Pemex Magna
                                                                                                           gasoline

150                                                                                                        US regular
                                                                                                           conventional
                                                                                                           retail gasoline
100                                                                                                        price

                                                                        119 cents-per-gallon
                                                                        price savings                      Cushing, OK WTI
 50                                                                                                        spot price FOB
    Jan           Jul           Jan           Jul          Jan           Jul           Jan           Jul
   2005          2006          2008          2009         2011          2012          2014          2015

Sources: Pemex Magna unleaded (regular), Energy Information Administration; Oliver Wyman analysis

Copyright © 2015 Oliver Wyman                                                                                                5
FRAGMENTED MARKET WITH A LACK OF
CONSUMER CHOICE
With only Pemex branded fuel and stations allowed in Mexico, the competition and
investment has been much more limited than in other markets. This has left the consumer
offer relatively weak, as evidenced by the low penetration and variety of convenience stores.
Only half of Mexican stations have convenience stores compared with around 80 percent in
other markets.

Exhibit 4: Convenience store penetration in gas stations
NUMBER OF STATIONS WITH CONVENIENCE STORES

                                                             5%
                                         18%                                    20%
                                                                                                    35%
                     45%

                                                             95%
                                         82%                                    80%                        Without
                                                                                                    65%    convenience
                     55%                                                                                   store6.0

                                                                                                           With
                                                                                                           convenience
       0%                                                                                                  store
                    Mexico                US              Germany                UK               Poland

Sources: CBRE – Market View European Petroleum Retail Sector, US Census Bureau; Oliver Wyman analysis

Copyright © 2015 Oliver Wyman                                                                                            6
Mexico is a highly fragmented fuels market. More than 5,000 franchisees operate only one
or two sites, making organic improvement in offerings challenging. There are fewer non-fuel
services than in similar markets, and many facilities lack the cleanliness and security desired
by customers. Even the largest franchisees operate fewer than 300 stations, making scale
operations a challenge.

But that has not restricted the development of grass-roots efforts to meet consumer
demand. The largest franchisees have developed their own offers including loyalty
programs, fleet cards, and fresh food offerings, proof that the Mexican consumer is looking
for expanded choices.

Exhibit 5: Improving consumer choice
Franchisee groups are developing their own customer offerings.

 OXXO GAS                                                 PETRO 7
 ••   Widely known convenience stores: Oxxo               •• Consolidated branding in the country
 ••   Fuel is just one retail product in the array        •• Convenience store in some stations: 7-Eleven
 ••   Alliance for automobiles service: Zona Akron        •• Alliance for automobile service: Zona Akron
 ••   System of tradable coupons: Billetigas              •• System of tradable coupons: Petro Tickets
 ••   Increasing volume of fuel commercialized despite
                                                          •• Rewards program: Payback
      market saturation
                                                          •• Rechargeable prepaid card
 CORPO GAS                                                ORSAN

 ••   Large number of gas stations in Mexico              ••   Fast-growing brand recognition in Mexico
 ••   Express service for automobiles                     ••   Known for accepting multiple payment methods
 ••   Convenience stores: Go Mart                         ••   Express billing through a bar code in key ring
 ••   Fast-food chain restaurant: Subway                  ••   Loyalty program: IR Frequent Customer
 ••   Loyalty program: Puntada                            ••   Card for fleets: Ultra Gas
 ••   Card system for fleets: Tanque Lleno                ••   Coupons system: Vale ORSAN
 ECO GASOLINERAS                                          HIDROSINA

 •• Second-largest player in Baja California              ••   Second-largest player in Mexico City
 •• Widely experienced in fuel distribution               ••   No branded convenience stores
 •• Fuel delivery commercial and industrial customers:    ••   Fuel coupons and prepaid cards
    Eco Transportes                                       ••   Rewards in Club Premier and AeroMexico miles
 •• Card system for fleets: Enercard                      ••   Corporate cards for organizations: Hidrosina
 •• Insurance for Mexico and US: Mr. Agente               ••   Microchips for vehicle identification: Hidrotag
 •• Local soccer team stores: Tijuana Xolos
 CANTELLI                                                 GASMART

 •• Leader in the southern region                         ••   Main business is convenience stores
 •• Wide array of additional services includes hotels,    ••   Rewards in Club Premier and AeroMexico miles
    groceries, convenience stores, automobile services,   ••   Utilities payment offer: Gasmart+cargas
    motorhome parking
                                                          ••   Banking in some stations: Banamex aqui
 •• Coffee shop: The Italian Coffee
                                                          ••   Purchasable electronic coupons
 •• No loyalty or rewards program
                                                          ••   Card system for fleets: GasmartCard

Copyright © 2015 Oliver Wyman                                                                                    7
OPPORTUNITIES OPEN
WITH REGULATORY CHANGES

Deregulation laws were passed in 2013 and 2014, and Mexican regulators are implementing
plans to relax control of the market in the next few years, impacting all areas of the energy
value chain.

For downstream activities, the law establishes a permit regime regulated by the Ministry
of Energy (SENER) for petroleum treatment and refining and the import and export of
petroleum products. The Energy Regulatory Commission (CRE) provides permits for
crude oil, petroleum products, and petrochemicals, transportation, storage, distribution,
compression, liquefaction, decompression, regasification, marketing and retail sale of crude
oil, petroleum products and petrochemicals, along with integrated pipeline transportation
and storage systems.

The regulatory changes are occurring in phases.

Exhibit 6: Mexican energy regulatory changes

PERMITS TO TRANSPORT,                   PERMITS TO OWN AND           PERMITS TO IMPORT           RETAIL PRICES OPEN AND
STORE, AND DISTRIBUTE                  OPERATE RETAIL STATIONS        AND EXPORT FUEL             MARKET FULLY OPENS

             2015                                   2016                      2017                           2018

IMPLICATIONS
•• New fuels distribution and          •• New fuels brands          •• New fuels brands          •• Wholesale and retail
   logistics entrants                  •• New store brands          •• New supply partnerships      fuels competition based
•• New investments                                                     with local franchises        on pricing
                                       •• New retail participants
   in infrastructure                                                •• New fuels                 •• Potential low-price
                                                                       trading participants         fuels offerings

Sources: Pemex and Oliver Wyman analysis

Investing in the Mexican fuels market comes with risk. Several details about the regulations
are not clear, such as how and when permits will be awarded, if foreign companies will be
allowed to buy existing assets, or how the number of retail stores will be regulated. Further,
it is not clear how regulators will determine fuel prices during the transition period or how
prices will change. It is essential for participants and investors to stay closely connected
to changes and build flexible strategies.

Copyright © 2015 Oliver Wyman                                                                                                 8
PARTICIPATION OPTIONS

Companies can pursue a range of options to participate in the downstream fuels market in
Mexico, from full ownership and operation of assets within key segments of the value chain,
to partnerships and joint ventures, to strong, brand-based sales agreements.

Market dynamics will continue to evolve, with consolidation of current players and new
sites and concepts from market entrants. Existing local fuels and convenience retailers will
continue to grow and consolidate, with larger companies speeding up the pace of buying
smaller operators. Entrants and local participants will build new fuels sites and probably test
hypermarket and grocery fueling offers.

A range of foreign refiners, fuels distributors, marketers, and retailers will build and buy
stores, and form partnerships, bringing new consumer offerings in fuel and convenience.

Exhibit 7: Entry options

                                                       TRANSPORTATION, STORAGE
           SUPPLY AND IMPORTS                                                                               FUELS MARKETING AND RETAIL
                                                           AND DISTRIBUTION

•• Sale of branded or unbranded fuel          •• Foreign pipeline companies may              •• Leverage advantaged fuels supply position to sell
   −− To existing franchisees, new retail        extend or build and operate new                directly to local Mexican distributors and retailers.
      owners, other foreign entrants,            products pipelines across the northern      •• Leverage existing fuels brand to establish
      and Pemex.                                 Mexico border.                                 branded supply agreements and partnerships
   −− New entrants are already developing     •• Foreign companies may also purchase,           with retailers.
      partnerships with larger franchisees.      build or operate products pipelines,        •• Leverage existing retail fuel and store offers and
                                                 terminals, and other logistics operations      brands to grow and gain value in partnership
•• New suppliers and importers must              to more efficiently distribute and
   gain access through controlled                                                               with local retailers.
                                                 store fuels.
   import terminals or focus on border                                                       •• Acquire existing assets, networks, and retailers to
   market zones.                                                                                establish base for growth.
                                                                                             •• Build new assets and new offers to capture value
                                                                                                from consumer choice.

Given the regulatory changes and attractive market dynamics, the Mexican fuels market
represents a once-in-a-generation opportunity for bold strategies to shape the market and
for companies with strong fuels capabilities, offers, and the desire to grow value.

Copyright © 2015 Oliver Wyman                                                                                                                           9
STRATEGIC CONSIDERATIONS FOR MEXICAN
FUELS MARKET PARTICIPATION
When considering whether to participate in the deregulated Mexican downstream market,
companies should ask themselves several critical questions.
•• How much in refined products am I exporting today that already ends up in Mexico (or
   other parts of Latin America)? Will those exports be sustained or grow?
•• How could I take better advantage of my products that already flow from the Gulf of
   Mexico, the West Coast, or over the border into northern Mexico?
•• How much would I benefit from securing future product placement and capturing more
   value in the fuels chain?
•• In what part of the value chain can my offer, capabilities, and assets differentiate
   themselves and create value, given the level of Mexico market development?
•• Should I invest in new assets or create partnerships to secure supply and placement?
•• What are my current relationships? How should I work with local partners? Pemex?
   Government agencies? Franchisees? Other oil and gas companies?
•• What parts of my retail offering will fulfill the needs of Mexican consumers, and how
   should I adapt?
•• How do I prepare for the theft that continue to increase in several parts of the
   value chain?
•• How much am I willing to invest? What is my risk tolerance? What am I leaving on the
   table if I don’t participate?
•• How do I build flexibility into my strategy as regulations evolve?

Copyright © 2015 Oliver Wyman                                                              10
ABOUT OLIVER WYMAN
Oliver Wyman is a global leader in management consulting. With offices in 50+ cities across 26 countries, Oliver Wyman combines deep
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ABOUT OUR ENERGY PRACTICE
Oliver Wyman’s energy practice helps companies address strategic and operational challenges through proven, results-oriented
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from decades of work with industry leaders. The energy team has worked with leading international and domestic oil and gas companies
operating in the Americas, Europe, Asia, Africa, and the Middle East.

For more information on this report, please contact:
BOB ORR
Partner
Houston
713-276-2187
bob.orr@oliverwyman.com
KARINA SWETTE
Principal
karina.swette@oliverwyman.com

This report was designed by Lech Ozimkiewicz and edited by Elizabeth Souder.

www.oliverwyman.com

Copyright © 2015 Oliver Wyman
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