- •Way to being the most owned stock in the Russian oil space
- •Focus on High Margin Barrels in Upstream
- •Regulatory environment
- •West Qurna-2 and other potential international expansion
- •Downstream
- •Downstream tax amendments
- •Valuation
- •‘Inside out’ approach
- •Appendix – Korchagina field regulatory regime
- •Disclosures
- •Production and Distribution of VTB Capital Research Reports outside the United States
- •Distribution of VTB Capital Research Reports to Investors within the United States
- •Relationship between VTB and Xtellus
- •Conflict of Interest Disclosures.
- •Issuer Specific Disclosures
- •Analysts Certification
- •Investment Ratings
- •12-month Target Prices
- •Conflicts Management Arrangements
- •Source: Morgan Stanley Wealth Management GIC as of Feb. 28, 2019
- •Source: Morgan Stanley Wealth Management GIC as of Feb. 28, 2019
- •Source: Morgan Stanley Wealth Management GIC as of Feb. 28, 2019
- •*For more about the risks to Master Limited Partnerships (MLPs) and Duration, please see the Risk Considerations section beginning on page 16 of this report.
- •Index Definitions
- •Risk Considerations
- •Disclosures
vk.com/id446425943
Russia
Energy: Integrated Oil & Gas
Lukoil
West Qurna-2 and other potential international expansion
Lukoil’s oil production at international projects in 2018 amounted to 3.4mmt (excluding its share in associates), down almost 11% YoY. Production dynamics were negatively influenced by the decrease in compensation crude oil from the West Qurna-2 project in Iraq (it dropped to 1.5mmt in 2018, from 1.8mmt in 2017) and external production limitations on the back of the agreement between Russia and OPEC. In May 2018, Lukoil and the Iraqi party signed a new development plan for the West Qurna-2 project. Under it, crude oil production is to increase to 450kb/d by the end of 2019 and 800kb/d by 2025.
Apart from that, Lukoil has considered potentially participating in several other international projects in Iraq, Iran, Mexico and Nigeria. At this point, we do not expect any sizable international expansion from Lukoil soon and reiterate our generally cautious view on the international activities of the company particularly in offshore exploration, given the associated risks (geological, operational, political, etc.).
Downstream
Lukoil processed a total of 74mmt of crude oil at its own (including associates) refineries in Russia and abroad in 2018 (or 87% of own production). The company is the second largest refiner in Russia, with throughput of 43.2mmt at four core operating facilities located in Volgograd, Perm, Nizhny Novgorod and Komi (Ukhta refinery) regions and two mini-refineries in Uray and Kogalym (0.2mmt).
Figure 12: Lukoil’s refineries are mainly located in the Central Region
Nizhny Novgorod |
Ukhta 4.2mmt |
|
|
14.2mmt |
|
Volgograd |
Perm 13.1mmt |
|
|
14.5mmt |
|
Source: Company data, VTB Capital Research
In Europe, Lukoil operates the following refineries: ISAB in Italy (9.6mmt), Burgas in Bulgaria (7.0mmt) and Petrotel in Romania (2.4mmt), as well as owning a 45% interest in the Zeeland refinery in Netherlands (5.1mmt Lukoil’s share). The aggregate throughput of European refineries stands at 24.1mmt (33% of the company’s total refining volumes). Apart from oil refining, the company’s downstream also includes producing and marketing lubricants, and processing gas.
Lukoil is also developing its premium sales network, including retail and bunkering. In the retail segment, the company operates more than 5,200 filling stations in 18 countries, including 2,600 filling stations in Russia (more than 30% of the domestic market). The company increased domestic retail sales in 2018 to 10.9mmt (+8.4% YoY), while international sales added 1.5% YoY to 4.2mmt.
In the marine bunkering segment, the company increased sales volumes by 3% YoY, while small wholesale volumes increased by 9% YoY. Higher supplies of marine fuel to the Baltic region were the key driver of this boost in the company’s sales. Therefore, the company maintained its 30% share on the domestic bunker fuel market in 2018. The profitability of this segment is set to decline as a result of both the tax
15 March 2019 |
13 |
vk.com/id446425943
Russia
Energy: Integrated Oil & Gas
Lukoil
manoeuvre and IMO sulphur limits being reduced. We estimate the impact of this on Lukoil in the Taxation amendments section below.
We anticipate Lukoil’s oil products output, which in 2018 amounted to 70.2mmt, remaining broadly flat until 2024.
Figure 13: Output from Lukoil’s refineries to stay broadly flat
80 |
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70 |
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40 |
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2017 |
2018 |
2019F |
2020F |
2021F |
2022F |
2023F |
2024F |
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Nizhny Novgorod |
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Volgograd |
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Perm |
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Ukhta |
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Mini-refineries |
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ISAB (Italy) |
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Zeeland (Netherlands) |
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Other international |
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Source: Company data, VTB Capital Research
Lukoil implemented a USD 10bn refinery upgrade programme in Russia in 2012-18, boosting its light product yield to 69%, while the share of fuel oil production was cut to 11%. In Europe, the company has completed its large Burgas upgrade programme along with selective improvements at other refineries, with investments of USD 2bn in 2012-18. According to the company, Lukoil plans to continue optimising and enhancing operating efficiency at its downstream assets and reach a 76% light product yield by 2022. In 2017, the company took FID on the construction of a delayed coking complex with feedstock capacity of 2.1mmt at its Nizhny Novgorod refinery. Lukoil expects this to increase the output of light products at the Nizhny Novgorod refinery 15pp to 76%, while optimised refinery utilisation will also help to reduce fuel oil output 2.7mmt by 2021, according to the company.
Figure 14: Lukoil refineries
Refineries |
Throughput, mnt |
Light product yield |
Nelson Index* |
Area |
Nizhny Novgorod |
14.2 |
64% |
7.3x |
Central Region |
Volgograd |
14.1 |
72% |
6.9x |
Central Region |
Perm |
12.4 |
68% |
9.4x |
Central Region |
Ukhta |
2.3 |
53% |
3.7x |
Timano-Pechora |
Total in Russia |
43.0 |
67% |
7.4x |
- |
ISAB (Italy) |
9.6 |
74% |
9.3x |
Italy |
Zeeland (Netherlands) |
5.1 |
72% |
8.4x |
Netherlands |
Burgas (Bulgaria) |
7.0 |
77% |
13.0x |
Bulgaria |
Ploiesti (Romania) |
2.4 |
80% |
10.0x |
Romania |
Total in Europe |
24.1 |
75% |
10.2x |
- |
Total |
67.1 |
70% |
8.8x |
- |
Source: Company data, VTB Capital Research, * calculated by Lukoil as of 30 December 2017
15 March 2019 |
14 |
vk.com/id446425943 |
Lukoil |
Russia |
|
Energy: Integrated Oil & Gas |
|
The completion of the tax manoeuvre in the oil industry in Russia, along with the introduction of the IMO’s limits for sulphur content in marine fuel in 2020, might have negative implications for the downstream sector (see our Russian Oils Downstream – The Metamorphoses; Fall of the Gods, of 5 October 2018). Lukoil is the third largest producer of HSFO (high sulphur fuel oil) in Russia. However, taking into account the planned modernisation programme (mentioned above), Lukoil is to reduce fuel oil production to 4.3mmt by 2021.
Figure 15: Lukoil’s HSFO production by refinery
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2016 |
2017 |
2018 |
2019F |
2020F |
2021F |
2022F |
2023F |
2024F |
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Nizhny Novgorod |
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Volgograd |
Perm |
Ukhta |
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Source: Company data, VTB Capital Research
Figure 16: Lukoil’s product slate by product
100%
90% |
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80% |
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70% |
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60% |
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50% |
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2015 |
2016 |
2017 |
2018 |
2019 |
2020 |
2021 |
2022 |
2023 |
2024 |
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Gasoline |
Naphta |
Diesel |
HSFO |
Jet fuel |
Other |
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Source: Company data, VTB Capital Research
In the downstream, both domestic and international refining throughput remained flat YoY in 2018 at 43mnt and 30.7mnt, respectively. Although the company stated that depending on spreads it might increase refining throughput by up to 5% this year (at the same time guiding for flattish throughput by 2022), we do not expect to see any sizable movements in the company’s refining throughput in the coming years.
Downstream tax amendments
As we discussed last year (see, for example, our Russian Oil and Gas – Tax manoeuvre – first draft, of 3 July), the mechanism of a ‘negative’ excise for crude oil or excise subsidy proposed by the government was initially designed to replace the export duty subsidy (the difference between the crude and products export duties) in full. However, the logistics coefficient, which was added to the formula along the way, in fact favours refineries located in the middle of Russia, including Lukoil’s Ukhta refinery. The high logistics coefficient of 1.3 for Ukhta boosts the negative excise subsidy for the refinery by 30%. Although the Ukta refinery’s complexity is the lowest in Lukoil’s portfolio, it might get higher budget compensations due to its logistics gap. However, because of low output volumes at the Ukhta refinery, we would expect the impact from the logistics coefficient on Lukoil’s overall financials to be pretty limited.
Figure 17: Only Ukhta refinery gets higher logistics coefficient
Lukoil |
Complexity parameter |
Logistic coef |
Compensation, USD/t |
Nizhny Novgorod |
0.41 |
1 |
6.5 |
Volgograd |
0.54 |
1 |
8.4 |
Perm |
0.58 |
1 |
8.8 |
Ukhta |
0.72 |
1.3 |
14.1 |
Source: Company data, VTB Capital Research
As a result, we estimate that in 2019F Lukoil’s assets will on average be compensated to the tune of USD 8.1/t under our base crude oil and FX estimates. While the majority of Lukoil’s refineries will be only just compensated with the reduced export duty subsidy, the logistics coefficient might add another USD 3.30/t for Ukhta to the negative excise in 2019, on our numbers.
15 March 2019 |
15 |