"Transboundary Hydrocarbon Deposits between Mexico & the United States"
Submitted by Juan C. Serra, Basham, Ringe Y Correa, S.C.

The purpose of this article is to explain the current issues regarding the lack of strong regulation in Mexico related to the manner by which the Mexican Government, by means of Petróleos Mexicanos (Pemex), can exploit the transboundary hydrocarbon resources located in deep waters of the Gulf of Mexico (GOM), specifically, in the so-called Perdido Fold Belt Area (Perdido Area), in which Pemex has identified, in the Mexican side, the existence of certain geological structures capable of containing hydrocarbons, specifically extra-light crude oil.

In geological terms, the Perdido Area constitutes a petroleum exploration province located at the northwestern deep waters of the GOM, whose depth reaches approximately 3,000 meters. In this regard, we have to mention that since 1981, the United States Geological Survey has carried out a detailed study of the oil & gas resource potential in the GOM. The results of the study derived in the division of the following areas, which we listed below attending to its hydrocarbon potential: i) Perdido Foldbelt; ii) Sigsbee Knoll; iii) Abyssal Gulf Basin; iv) Campeche Escarpment; v) Rio Grande Margin; and vi) Sigsbee Escarpment.

The Maritime Boundaries in the GOM

The Maritime Boundaries between Mexico and the United States (US) are determined in the Treaty on Maritime Boundaries dated May 4, 1978, which was approved and ratified by the Mexican Senate on December 20, 1978, and ratified by the US Senate on October 23, 1997 (Treaty of 1978). As you might see, there is a delay of almost 20 years between the approvals given by both Senates. This was due to the following facts: i) the arguments exposed to the US Senate by Mr. Hollis Hedberg in which he disputed the large portion of the GOM rich in oil and other minerals that Mexico would receive if such Treaty was signed; and ii) the results of the study carried out by the United States Geological Services, to which prior reference was made.

It is worthy to note that the Treaty of 1978 only determined the boundaries in which the Economic Exclusive Zone (EEZ) of Mexico and the US were spliced as being less than 200 nautical miles and not for such areas in which the 200 nautical miles was exceeded. As a result of such delimitation, two free jurisdiction zones were created: the so called Western¹ and Eastern Gaps. The constitution of such zones provoked the signing on June 9, 2000 of the "Treaty on the delimitation of the continental shelf in the western section of the Gulf of Mexico beyond 200 nautical miles" (Treaty of 2000).

In general terms, the Treaty of 2000 states, among other things:

a) The coordinates by which the boundaries of the Western Gap were set;

b) For the first time, it includes a definition of Transboundary Hydrocarbon Resources;

c) The creation of a protection zone that comprises a 2.8 (two and eight-tenths) nautical mile area, in which Mexico and the US, during a period of 10 (ten) years starting from the entry into force of the Treaty of 2000, shall not authorize or permit oil & natural gas drillings in the aforesaid zone. It is worthy to note that this moratorium will end on January 17, 2011;

d) The possibility to extend the moratorium period through an exchange of diplomatic notes between both countries;

e) A system for cooperation and interchange of information between both countries regarding geological and geophysical information they might possess, in order to determine the possible existence and location of transboundary hydrocarbon deposits; and

f) The possibilities for both parties to reach an agreement for the efficient and equitable exploitation in the cases where the existence of transboundary deposits are confirmed.

Current Problems

In general terms, we can say that the existing problems regarding the transboundary hydrocarbon deposits should be seen as a complex list of topics that our Executive and Legislative Powers have to address in order to safeguard the sovereign rights that Mexico has over these kinds of resources.

The first topic discusses the lack of regulation of the Mexico Delimitation Treaties over these kinds of deposits, that have celebrated over the time with neighbour States; the existing legal framework, even though it was the subject of a Reform in 2008, does not constitute a solution for Pemex and its subsidiary entities - that are the decentralized public entities with legal faculty to fulfil activities that integrate the National Oil Industry - to execute over a base of sustainability, an adequate exploitation over these types of deposits. On this first topic, we should consider:

1. The Maritime Limits Treaty celebrated with the Republic of Honduras and the Treaty of 2000 are the only treaties celebrated by our country that regulate the deposits classified as Transboundary hydrocarbon deposits. This implies that in the remainder of the treaties there exists a legal hole regarding these types of deposits.

2. On the international ground, it is usual to find in International Treaties an article quoting the following:

"If any single geological petroleum structure or petroleum field, or any single geological structure or field of any other mineral deposit, including sand or gravel, extends across the dividing line and the part of such structure or field which is situated on one side of the dividing line is exploitable, wholly or in part, from the other side of the dividing line, the Contracting Parties shall, in consultation with the licensees, if any, seek to reach agreement as to the manner in which the structure or field shall be most effectively exploited and the manner in which the proceeds deriving there from shall be apportioned".

3. The ambiguity expressed in the Regulatory Law to Article 27 in the Branch of Petroleum (LRA27), when trying to establish the principles to regulate the exploitation of these kinds of resources, leaves open the exploitation, thereby generating future discussions about the constitutionality of the contracts that Pemex and/or its subsidiary entities² may celebrate.

This lack of certainty is due to the following factors:

a. To the definition over Transboundary Hydrocarbon Deposits, described in Article 1 of the LRA27, that quotes:

"For the effects of this law, it is considered as a Transboundary Deposits those located inside the national jurisdiction and have a physical continuity outside of it".

"It is also considered as Transboundary those deposits or mantles outside the national jurisdiction, shared with other countries according to the treaties that Mexico is member of or under what is established on the United Nations Convention on the Law of the Sea".

From the quoted definition, we should make the following questions:

i. Why would the legislator qualify in two categories the Transboundary Hydrocarbon Deposits?

ii. What do we understand as National Jurisdiction?

iii. If the Transboundary Hydrocarbon Deposits are located outside the national jurisdiction, why should the legislator regulate them in a national law?

iv. Is there an extra-territorial approach given by the Mexican legislator in the definition established in the LRA27?

b. To its exploitation form, that according to LRA27 will be subject to "… the terms of the treaties to which Mexico is part of, celebrated by the President of the Republic and approved by the Senate Chamber". In this sense, we believe that the broadness of such a precept may provoke future discussions on the constitutionality of the contracts that, for such effect Pemex and its Subsidiary Entities celebrate, in relation to the exploitation of these kinds of resources, since such a broad disposition may create the possibility of celebrating unitization agreements that establish production-sharing hydrocarbon schemes, which, according to the current legal structure are forbidden for such decentralized entities.

The second topic is related to the decrease that our country has been facing in the last years of its Hydrocarbon Reserves and in the growing necessity of the Federal Government to increase the restitution of reserves rate in order to warranty, for the following years, a sustained production of hydrocarbons. On this second topic it is important to clarify the following:

1. The current declination rate on the Reserves 3P³, according to statistical data given by Pemex during the period from January 1, 2006 to December 31, 2009, was around 1.9%. This percentage implies, among other things, a direct impact to the crude oil production of our country.

2. On January 1, 2010, the average production of crude oil, according to data given by the Energy Ministry, was approximately 2,615 millions of barrels of crude oil equivalent (mbcoe). This amount reflects a 2.6% decrease from the quantity recorded in 2009.

3. On January 1, 2010, the average volume of crude oil exportation, according to data given by the Energy Ministry, was approximately 1,238 mbcoe, a 9.4% decrease from what was exported in 2009.

4. The remaining reserve of hydrocarbons in Cantarell – oil industry active that for decades was the principal axis of hydrocarbons production in our country – shows us that by December 31, 2009 the oil production was 250 mbcoe and the natural gas production was 531.2 thousand of millions of cubic feet (mcf), an amount that, compared with 2008 production, was lower.

The third topic relies on: i) the discoveries made by international oil companies located in the Perdido Area; ii) the statements made on March 31, 2010 by US President Barack Obama regarding the matter of lifting the prohibition to allow new drillings to find oil and gas in the US Maritime Zones, including the GOM⁴; iii) Pemex confirming the existence of geological structures that raise the possibilities of the existence of hydrocarbons at the Perdido Fold Belt; and iv) the possible damage in the hydraulic equilibrium on the Transboundary Hydrocarbon Deposits.

On this third topic, it is important to keep in mind the following information:

1. In 2002, on the US side of the continental shelf, the oil field "Trident" was discovered, which is located at six kilometers from the boundary line with Mexico. Agreeing with Pemex, the hydrocarbons discovered in this oil field are "… light 28 – 35ª API, with porosity of 18 to 26%, permeable between 6-20 mdarcy and thickness between 15 and 20 meters". It is important to say that this deposit is located in waters between 2800 and 3100 meters in depth.

2. The next deposit discovered was "Hammerhead." According to Pemex, the geological structure of this field extends to the other side of the border reaching the oil field called Magnanimo. On Hammerhead, there are a variety of opinions amongst the Mexican experts as some believe its geological structures are very susceptible to generating hydrocarbons and therefore it is probable that these hydrocarbons can be classified as Transboundary. On the other hand, there are researchers that confirm that this oil field constitutes just a dry hole⁵.

3. According to Pemex information, in the US there are 180 blocks that can be granted. From 2005 to 2008, the Mineral Management Services (MMS) – the agency for the Interior Department of the US that manages the administration of mineral, oil and natural gas resources located on the Outer Continental Shelf of the US – granted 24 blocks for purposes of hydrocarbons exploration.

4. According to the experts, there is no technology in the oil market allowing drilling of oil wells in waters over 2,500 meters. It is important to say that the water depth at the Perdido Area, which is the zone likely to contain Transboundary Hydrocarbon Deposits, is over 3,000 meters.

5. Hydrocarbons are subject to high temperature and pressure, which originate at the time of drilling, and can cause the expulsion of such hydrocarbon. This implies that in a given moment, the pressure of the deposit loses its energy, forcing the oil companies to look for enhanced recovery methods (water or gas injection), with the purpose to recuperate hydrocarbon over a given deposit.

Nevertheless, in Transboundary Hydrocarbon Deposits, any drilling will break the internal equilibrium of the deposit provoking the movement of fluids toward other wells which can be located in the US territory. Likewise, if such deposits are communicated hydraulically, the exploitation of any of them will affect the behavior on pressure of the other one, or other ones, or other adjacent sites.

6. The denominated Straw Effect constitutes a myth created by the national press, since nowadays it is impossible to drill wells with a horizontal reach longer than 15 kilometers. Therefore, the problem within Transboundary Hydrocarbon Deposits is, as we have established, the migration of fluids and the depressurization of the deposits⁶.

Cooperation Doctrine vs. Rule of Capture

According to international practice, many States have celebrated International Treaties with the objective of regulating the better exploitation of the Transboundary Hydrocarbon Deposits. In these treaties, the compatible principles developed for other Transboundary Resources such as continental aquifers have been used.

On the other side, it is important to say that treaties are not considered as the only instrument that regulates the best exploitation of the Transboundary Hydrocarbon Deposits; there are also recommendations and resolutions issued by International Organizations that establish lines to help the States to conserve and exploit this type of resource. As an example of this resolution, we can mention the 3281 (XXIX) Resolution adopted by the General Assembly of the United Nations of December 12, 1974, that contains the Charter of Economic Rights and Duties of States⁷.

Under common law legal tradition, which is nearly universal in the US, we can find the Rule of Capture as an opposite to the Cooperation Doctrine. According to the Rule of Capture, a landowner must capture or extract oil or gas from his lands in order to achieve absolute ownership. If he fails to do so, and the resource migrates underground within the common deposit, an adjacent landowner may achieve ownership by capturing, or extracting, the resource from his own lands. Said in other words, the Rule of Capture applies Latin Maxim "Prior Tempore, Potior Iure" and encourages the landowner, where a Hydrocarbon Deposit is located, to take out such resource before it is done by other adjacent landowners.

On international practice, the Rule of Capture does not apply to the exploitation of Transboundary Hydrocarbon Deposits, since its exploitation may affect the capacity of the neighboring State to exploit its proportional part of the deposit and reduce its resources in situ on its own side of the border. On the other hand, we have to consider that the Rule of Capture often creates a destructive race between adjoining landowners to exploit shared resources, resulting in excess drilling and inefficient draining of deposits.

Unitization

Unitization Arrangements constitute a response to the Rule of Capture above described. It can be defined as an arrangement to jointly develop an entire oil or gas production area (in this case applicable to an area that crosses the boundary of one or more countries), which may include one or many deposits. The entire area, which is known as the unit area, may be quite expansive and may involve the interests of the parties. The unit area may be developed by the drilling of one or more wells.

The main objective of the unitization is the desire to obtain maximally efficient resource recovery at minimal costs by permitting unified development of the unit area by a single operator without regard to international boundaries. The main objective previously mentioned is comprised of three strategic actions:

1. Natural Resources Conservation.
Imply the protection of natural resources of the parties;
Maximize the extraction; and
Reduce the operational costs of the operation.

2. Avoid physical and economic waste.
Imply a reduction on the pressure of the deposit and the reduction of environmental damages.

3. Provide protection to all interest parties.
For participants, it provides a system that avoids economical losses, while for governments provides a system of equity based on clear and fair terms.

Likewise, we have to consider that unitization arrangements are based on specific principles contained on the Resolutions issued by the General Assembly of United Nations. One of such principles states there should be an equitable and proportional allocation of the benefits derived from the exploitation of the Transboundary Hydrocarbon Deposit.

Until now, the international practice has been limited to one clause included principally on the Delimitation Treaties -- to make efforts with the purpose to reach an agreement for the better exploitation, in case that is proved the existence of single geological units which may contain Transboundary Hydrocarbon Deposits.

Final Remarks

Throughout this article, it was shown that Pemex has identified certain geological structures in the Perdido Area that are very likely to contain hydrocarbons which, by its nature and location, it was assumed that such structures must cross the boundary line stated in the Treaty of 1978, and if that is the case, it should be considered as a Transboundary Hydrocarbon Deposit between both countries. In this article, we pointed out that the lack of a clause in the Treaty of 1978 detailing how Mexico and US governments will establish the bases and/or mechanisms for the appropriate exploitation of the deposits located under this specific situation, constitutes a red dot for Mexico's Federal Government, and it should be treated in a delicate manner since it is a matter that involves diplomatic relations between Mexico and the US.

As mentioned before, from the definition given in Article 1 of the LRA27, we set a number of questions related to the legislator's criteria to classify the Transboundary Hydrocarbon Deposits in those that are included within national jurisdiction and outside. We should emphasize that within Pemex there are individuals that try to explain and justify that Transboundary Hydrocarbon Deposits located outside national jurisdiction could be susceptible to contractual schemes of joint associations and/or operation agreements. This is based on a interpretation of Articles 27 and 42 of the Political Constitution of the United Mexican States in regards to the scope of the national territory concept. In general terms, such interpretation states that the Outer Limits of the EEZ and the CS are subject to international law and therefore there is no restriction to Pemex and its Subsidiary Entities to execute agreements based on international templates.

On the other hand, there are opinions that ratify the principles stated in the Mexican Constitution regarding the Direct Dominion of the Nation over all natural resources including oil & gas deposits located on National Territory, a concept that includes the Outer Limits of the EEZ and CS. In this regard, Pemex and its Subsidiary Entities are forbidden to celebrate shared production contracts that imply a joint operation agreement.

We believe that in order to avoid future discussions on the articles above mentioned, it is necessary for our legislative and executive powers to propose another Energy Reform with the purpose of establishing an Exception Regime applicable to Transboundary Hydrocarbon Resources. This Exception Regime would allow Pemex, specifically Pemex-Exploración y Producción, to enter, be part of, or celebrate unitization agreements in order to exploit in a more efficient manner such type of hydrocarbons. In this regard, it would be important to our country to emulate the way other countries with the same problem regulate, via unitization, the Transboundary Hydrocarbons (e.g. Frigg & Markham Field located in the North Sea can constitute a good parameter for our country).

Finally, we have to keep in mind that another pending issue to solve in the matter of Transboundary Hydrocarbon Deposits is the one related to the maritime delimitation process of the so called Eastern Gap, in which Mexico, Cuba and the US have interests over its regulation. Because of its complexity, we believe that this topic should be addressed in another article.