vk.com/id446425943
Russia
Energy: Integrated Oil & Gas
Lukoil
Focus on High Margin Barrels in Upstream
Lukoil is the second largest Russian oil company, in terms of both production and reserve base (19 years of liquids reserves life under SEC standards as of the end of 2017). The company’s asset base is mostly located in Western Siberia (some 52% of proved hydrocarbon reserves and 44% of crude production), which is predominantly mature assets. Thanks to the implementation of different technologies (including horizontal wells with three-string design, small diameter wells and multistage fracking) to different assets in the region, the company managed to limit the decline rates in WS to 3% in 2018. The company sounded pretty upbeat during the 4Q18 IFRS results conference call about the further opportunities for reservoir management in the region, targeting a lower decline rate for 2019.
Figure 6: Crude production in WS (excl. Imilorskoye and Pyakyakhinskoye)
60
50
40 mnt 30
20
10
0
2011 |
2012 |
2013 |
2014 |
2015 |
2016 |
2017 |
2018 |
Source: Company data, VTB Capital Research
The slump in output at mature fields in Western Siberia was partially offset by the intensified development of mature fields in the Timano-Pechora region, in particular the Yaregskoye and Usinksoye fields, which contain high-viscous oil. As the government (through tax reliefs) supports the production of high-viscous oil, Lukoil has increased crude output at those fields 46% since 2011. The growth was primarily driven by the Yaregskoye field, where the oil has a viscosity above 10,000mPa-s, so the company pays no MET and a reduced export duty. The Usinskoye field contains high viscous crude in the Permian layer, but as its viscosity is lower than 10,000mPa- s·it receives only partial MET relief. Lukoil plans to more than triple the crude output at the Yaregskoye field by 2021 and add another 1mmt in crude production at the Usinskoye field to 2017 levels.
15 March 2019 |
8 |
vk.com/id446425943
Russia
Energy: Integrated Oil & Gas
Lukoil
Figure 7: Crude production at Yaregskoye and Usinskoye fields
3.5
3.0
2.5
2.0
mnt
1.5
1.0
0.5
0.0
2011 |
2012 |
2013 |
2014 |
2015 |
2016 |
2017 |
2018 |
|||
|
|
|
|
Yaregskoye |
|
Usinskoye |
|
|
|
|
|
|
|
|
|
|
|
|
|||
|
|
|
|
|
|
|
|
|||
Source: Company data, VTB Capital Research
The enhanced development of high-viscous crude by Lukoil is part of a broader trend in the industry: replacing low margin crude by increasing the high-margin production (see our Russian Oils – 4Q17 preview; upstream portfolio lessons, of 18 January). Lukoil is well placed here. The company has 5.5bn boe of hard to recover (HTR) reserves (with high viscosity and low permeability), according to the Russian classification, or 17% of Lukoil’s overall reserves in Russia. In addition to the high viscosity oil in Timano-Pechora mentioned above, Lukoil is also developing low permeability reservoirs, including the Tyumen formation, at fields in Western Siberia. The latter includes the Imilorskoye and Vinogradov fields, which currently produce around 0.9mmt of crude combined (but the company plans to increase that to 2mmt by 2020, and potentially to 4.4mmt thereafter). During the recent conference call, the company stated that during 2018 Lukoil reclassified 130bn boe of reserves as HTR.
Overall, Lukoil is set to increase total output from HTR reservoirs two fold by 2020F and threefold by 2027F from 2017 levels, according to the company’s strategy. Therefore, the share of HTR crude might increase from 7% in 2018 to more than 13% by 2025F, on our numbers.
15 March 2019 |
9 |
vk.com/id446425943
Russia
Energy: Integrated Oil & Gas
Lukoil
Figure 8: Crude production from HTR reservoirs
mnt
12
10
8
6
4
2
0
2011 |
2012 |
2013 |
2014 |
2015 |
2016 |
2017 |
||
|
|
|
Yaregskoye |
|
|
Usinskoye |
||
|
|
|
|
|
||||
|
|
|
|
|
||||
2018 |
2019F |
2020F |
|
2021F |
2022F |
2023F |
2024F |
2025F |
|
|
Imilorskoye |
|
|
Vinogradova |
|
|
|
||
|
|
|
|
|
|
||||
|
|
|
|
|
|
||||
Source: Company data, VTB Capital Research
The total amount of high margin barrels (including with the depletion tax breaks) is to set grow to 41% by 2020F, on our numbers, from 31% at present.
In 2018, Lukoil’s domestic crude production reversed the downward trend of the past three years, growing 0.5% YoY. However, we note that the company has been limiting crude production following the OPEC+ decision to cut output from October 2018 levels (reference point). Therefore, by March the company has already cut domestic output 0.9% from the reference point to 1.65mnb/d. We expect total and domestic production to be broadly flat YoY at 85.0mmt and 81.8mmt, respectively, this year. In the next couple of years, we see domestic production even growing slightly, at around 1%, as greenfields ramp up, there is higher production from hard-to-recover assets and decline rates at mature fields in Western Siberia stabilise.
Regulatory environment
Together with the tax manoeuvre, which was launched on 1 January 2019 (see our
Russian Oils Upstream – The Metamorphoses. Rise of Titans, of 5 October for details), the government has also changed several parameters of the export duty relief calculation, which we think will be beneficial for Lukoil.
First, the government amended the coefficient in the formula for the export duty on high viscous oil (with viscosity of no less than 10,000 mPa-s), from 0.55 to 0.30, and added to the formula multiple which gradually drops from 0.83x in 2019 to 0 in 2024. These adjustments resulted in the following: the export duty for high viscous oil is now calculated as 10% of the export duty for a conventional oil field. Despite the fact that the government introduced MET for high-viscous oil (the growth of which is synchronised with the decline in export duty), the proposed changes are reducing the tax bill for Lukoil, we believe. We estimate that the company pays some USD 1.40/bbl less in MET and export duty from 2019 for high viscous crude produced and exported.
15 March 2019 |
10 |
vk.com/id446425943
Russia
Energy: Integrated Oil & Gas
Lukoil
Figure 9: Proposed amendments for the high-viscous oil taxation are beneficial for the respective crude producers (at USD 66/bbl oil prices)
25
20
15
USD/t
10
5
0
2019 |
2020 |
2021 |
2022 |
2023 |
2024 |
|||
|
|
New Export duty |
|
|
New MET |
Old Export duty |
|
|
|
|
|
|
|||||
|
|
|
|
|
||||
Source: VTB Capital Research
Thanks to this, the Yaregskoye field could well save around USD 20mn in additional taxes breaks per year, on our numbers.
Next, the government renewed the method for calculating the export duty relief for greenfields. Previously, Lukoil’s Caspian Korchagina field had enjoyed an export duty tax break until its accumulated exported volumes (since 31 March 2013) reached 8.8mmt. Given the field’s historical production and our forecast, Korchagina could lose the relief already in early 2020, on our numbers. Now, the government has replaced the 8.8mmt threshold by 4mmt. However, this number is applied from 1 January 2019. As a result, the Korchagina field is going to have an export duty break until the end of 2022, and earn an additional USD 210mn, we estimate.
EPT – benefit via smaller greenfields and brownfields
The EPT regime in Russia was launched in 2019. Lukoil has several greenfields which are eligible for this tax system and number of brownfield pilots, which have moved to EPT.
The largest greenfield in this regard is the Korchagina field, which falls under the second category of fields applicable for EPT. Nevertheless, we believe that there are actually few reasons for the field to move under the new tax system (see detailed explanation in the Appendix). Unlike Korchagina, some of Lukoil’s other greenfields might move to the EPT system, in particular the East-Sarutayskoye and Rossikhina fields in Timano-Pechora. These are rather small fields (annual production of 0.1- 0.2mmt), but with relatively big reserves. Therefore, we think they are likely to have a Kg coefficient below 1 for at least the next couple of years, meaning that no export duty is to be paid and the company might be able to reduce its tax base to zero. As a result, EPT might improve the NPV of those fields USD 170mn, we estimate.
For the company’s other relatively big greenfields, there are in fact no implications from the tax manoeuvre or EPT introduction. Lukoil’s largest greenfield, Filanovskoye, is treated in the Russian taxation system as a new offshore field, and thus it cannot shift to the EPT regime. Nevertheless, the field’s taxation is already quite light and favourable, as the MET is calculated as 15% of the Urals price for seven years and exempt from the export duty up to 31 March 2032. Other large greenfields, such as Imilorskoye and Pyakyahinskoye, are located in Western Siberia and so do not fall under any category eligible for EPT. However, they are supported by the government
15 March 2019 |
11 |
vk.com/id446425943 |
Lukoil |
Russia |
|
Energy: Integrated Oil & Gas |
|
through MET reliefs. We expect Lukoil to continue developing these fields, with production reaching plateau levels in the coming years. We forecast total crude output from greenfields to increase to 12mmt in 2020F, and stay broadly flat at this level in 2020-25F.
Figure 10: Lukoil greenfields production forecast
14
12
10
8
mnt
6
4
2
0
2017
Filanovskoye
2018 |
2019 |
2020 |
2021 |
2022 |
2023 |
2024 |
2025F |
|||||
|
|
|
Korchagina |
|
Pyakyakhinskoye |
|
Imilorskoye |
|
Timan-Pechora greenfields |
|||
|
|
|
|
|
|
|||||||
|
|
|
|
|
|
|||||||
Source: Company data, VTB Capital Research
We expect crude production to stay flat in 2019F and the share of the fully taxed production to decline to 61%.
We note that Lukoil has a number of pilot brownfields, which moved to EPT this year. These fields account for some 3% of the company’s total production in Russia, according to Lukoil, or 18mnbbl, we calculate. As a result of the EPT being introduced, Lukoil estimates that production at these fields might grow 98mmbbl for the period 2019-27 compared with the standard tax regime. The company could spend some RUB 65bn (USD 1.0bn) in capex for this group of fields during the next five years.
Figure 11: Lukoil’s high-margin production share is set to grow
90
mnt
85
80
75
70
65
60
55
50
45
40 
2011 |
2012 |
2013 |
2014 |
|||
|
No relief |
|
Depletion relief |
|
Regional relief |
|
|
|
|
||||
|
|
|
||||
2015 |
2016 |
2017 |
2018 |
2019 |
2020 |
|||||
|
|
Permiability |
|
Viscosity |
|
EPT greenfields |
|
Other |
||
|
|
|
|
|
||||||
|
|
|
|
|
||||||
Source: Company data, VTB Capital Research
15 March 2019 |
12 |