Russian Oil and Gas. February 2020 - A Bounty of Virtues: High Yields, Momentum, Re-rating Potential
Russian oil and gas stocks are certainly not immune to the threats to global economic growth. The recent heightened volatility in commodity prices driven by the coronavirus epidemic poses some risks to earnings, but the implications should not be overestimated, in our view. The oil sector generates a robust FCF yield above 10% under our base scenario of $60/bbl for oil, and even a 10% lower oil assumption means a less than 1 pp lower average yield, on our estimates. Although the gas market appears set to remain under pressure longer than we had thought and new growth projects might be delayed, both Gazprom and Novatek are very competitive and keep generating positive margins. > With the positive factors in place for the upstream, we believe the oil companies will be able to sustain last year's level of FCF generation this year despite the impact of the new IMO 2020 regulation on the downstream and lower oil prices. Lukoil (BUY) and Tatneft (BUY) lead the sector with double-digit FCF and dividend yields, while Rosneft (upgraded to BUY) will be quickly catching up with them over 2020-21 on the back of higher upstream profits, diminishing non-cash items in the P&L and declining interest expenses. Rosneft could also greatly benefit from refining investment subsidies and tax breaks for Vankor/Taimyr, which are at an advanced stage of discussion in the government. > Even with the global gas market outlook becoming more challenging, we upgrade Gazprom to BUY. We see strong potential for a further re-rating of the shares on the back of FCF and dividend yields that we expect to rise to 25% and 14% by 2025 owing to lower capex, European gas export growth potential, the ramping-up of sales to Asian markets and a global gas price recovery in the medium term. We believe Gazprom, which has the lowest sensitivity to the oil price in the sector, offers a unique and attractive risk/return profile. > We believe that Novatek remains a superb growth story based on its existing assets and projects in the pipeline. However, this is mostly priced in at this stage, while we think that big new projects might be delayed due to the weak gas market conditions. Hence, we put the stock at a HOLD. Gazprom Neft shares remain a HOLD because of weaker earnings and FCF momentum.
Gazprom Neft PJSC is vertically integrated oil company operating in the Russian Federation, CIS and internationally. Co.'s principal activities include exploration, production and development of crude oil and gas, production of refined petroleum products and distribution and market ing operations through its retail outlets. Co.'s Upstream segment includes the exploration, development and production of crude oil and natural gas (including joint ventures results), oil field services. Co.'s Downstream segment processes crude into refined products and purchases and sells and transports crude and refined petroleum products (refining and marketing).
PJSC Gazprom is a gas company based in Russia. Co.'s principal activity is the sale of gas. Co. is also involved in other types of activities which include leasing of assets, gas transportation and storage services, sale of gas condensate and refined products. Co. and its subsidiaries and associates operates gas pipelines systems in Russia. Co. is responsible for substantially all gas production and high pressure gas transportation in the Russian Federation. Co. is also a major exporter of gas to European countries. Co. is directly involved in exploration and drilling for hydrocarbons, production of gas and other hydrocarbons and domestic and export sale of gas and other hydrocarbons.
Novatek is an independent gas producer and natural gas producer in Russia. Co. is engaged in the exploration, production, and processing of natural gas and liquid hydrocarbons. Co.'s upstream activities are concentrated in the Yamal-Nenets region, which is a natural gas producing area and accounts for a significant part of Russia's natural gas production. Co.'s three core fields are located in the regions of Yurkharovskoye, East Tarkosalinskoye and Khancheyskoye. Co. maintains natural gas reserves of approximately 1,144 bcm. Co.'s total net proved reserves totals around 8,088 million barrels of oil equivalent (boe).
PJSC Lukoil is a vertically-integrated oil company engaged in the exploration and production of crude oil and natural gas. Co. is engaged in all main sectors of the modern oil business including supplies, refining, marketing, transportation, petrochemicals and oil-related activities. Co.'s operations are divided into five business segments: Exploration and Production; Refining, Marketing and Distribution; Chemicals; Power Generation and Other Business Segments. Co. owns and operates refineries in Bulgaria (LUKOIL Neftochim Bourgas AD) and Romania (Petrotel-LUKOIL).
OJSC OC Rosneft is a vertically-integrated Russian oil and gas company with upstream and downstream operations in each of Russia's oil-producing regions. Headquartered in Moscow, Co. operates ten oil and gas producing enterprises across Russia and is involved in over ten exploration projects. In addition to its upstream operations, Co. also owns two refineries, which have a combined capacity of 10 million tons per year, as well as four main oil export terminals and a nationwide network of over 600 service stations. Co.'s downstream operations consist of its crude oil export structure, refining operations and nationwide network of marketing subsidiaries.
Tatneft PJSC and its subsidiaries are engaged in crude oil exploration, development and production principally in the Republic of Tatarstan, Russia. Co. is a holding structure, which incorporates oil and gas production boards, crude oil and gas refining companies, as well as enterprises and servicing works selling the crude oil and also the products of crude oil and gas refining and petrochemical products. In addition to this, Co. is also participating in the banking and insurance activities. Co.'s operations are divided into the following main segments: Exploration and Production; Refining and Marketing; and Petrochemicals.
Transneft is an oil pipeline group based in the Russian Federation. Co. and its subsidiaries operate a crude oil pipeline system totalling 50,142 km. Co. transport millions of tons of crude oil to domestic and export markets. Co. produces a substantial majority of the crude oil in the territory of the Russian Federation. In addition, Co., through Group Transnefteproduct operates an oil products pipeline system in the Russian Federation and in the Republics of Belarus and Ukraine totalling 18,746 km. Through its associate OOO LatRosTrans, Co. operates an interconnected system in the Latvian Republic.
Sberbank CIB Investment Research is a research firm offering equity, fixed income, economics, and strategy research. It covers analysis on all aspects of Russia’s capital markets, issues and industries. The firm analyzes trends in Russia and combines local knowledge with a global perspective. It processes macroeconomic data, market and company-specific news, stock quotes and other information for providing research reports. The firm provides details and latest prices on the most traded names and most traded paper on all segments Russian market. In strategy research, it provides thematic research, tips and descriptions of the methodology used to evaluate companies.
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