Sergey Kaufman: ‘The Russian oil and gas sector looks stable, but risks remain’

Not the factor of prices for black gold but the capability of saving the production is pivotal

Volatility in the oil market has remained record high in the recent months, which has to do with a number of factors both in a higher price for black gold and its fall. Western countries’ gradual refusal from Russian oil, including the upcoming imposition of an embargo of maritime supple of oil and oil products to the EU, chronic overperformance of the OPEC+ deal and low reserves and free capacities in production around the world keep the oil price. At the same time, a series of factors including the liberation of strategic reserves by the IEA, a stricter policy of the FRS, a high risk of recession in developed countries and the possibility of further lockdowns in China don’t allow prices to go higher. We assume the parity of these facts will stay in the short term and oil prices will continue staying above $90 per barrel.

At the same time, not the factor of prices for black gold but the capability of saving the production is pivotal for Russian oil companies now because an embargo on maritime oil supplies to the EU will be imposed on December, a ban on maritime supplies of oil products will be in February. Despite the nearing embargo, the EU remains the key outlet for Russia, it accounts for about 3,2 million bpd of exports of oil and oil products in the total amount of supplies of 7,5 million bpd. It will be physically impossible to completely redirect such volumes. India, China, Southeast Asia countries, Brazil and Near Eastern countries can be singled out among potential regions that can ramp up Russian oil purchases and instead can buy oil from Russia for a discount. However, the full reorientation of supplies is not a point in case now, due to which after the imposition of the full embargo we expect oil production to decrease by a million bpd in the country compared to the current level of 10,6 million bpd. We will also note that international agencies’ outlooks are by far more pessimistic and suppose a fall in production up to 2 million bpd.

Tatarstan oil companies’ businesses look stable

In the situation when oil companies almost aren’t able to increase production, the exit of Western oil service companies doesn’t look so negative. There is a critical dependence on imports only in some areas in the sector, among them we can single out off-shore production, some types of hard-to-recover reserves (particularly using hydraulic fracturing) and a number of technologies in oil refining. However, hard-to-recover reserves hold about 17% of total oil reserves in Russia, therefore the short-term development of this area cannot be a priority. Nevertheless, Russian companies can develop traditional reserves and projects based on them without Western technologies. Vostock Oil by Rosneft is a good example of such a project.

Talking about Tatarstan oil companies, in the short term, Tatneft’s business looks stable enough. In the last two years, Tatneft has purchased a number of oil service companies, which, we think can become an advantage amid the exit of Western representatives of the sector. Also, we will remind you that some units at TANECO are a good example of import substitution where the localisation reaches 95-100%.

As for exports, historically, Tatneft supplied some 90% of exported oil via the Friendship pipeline, which isn’t affected by the embargo. However, Poland and Germany receiving oil via the northern line of the Friendship already announced the plans for refusing these supplies, that’s to say, only exports in the southern line to Central European countries will stay. This means that Tatneft as well as other oil companies will have to reorient a part of supplies to the alternative markets enumerated above. Given the small amount of exports from Tatneft in Russia, we think the potential decline in the company’s output can be within our outlook in the sector in general, that’s to say, no more than 10% compared to the current level. We will also note that a low debt burden and sticking to the dividend policy should be considered as advantages of Tatneft, whereas a low probability of restoring benefits on highly viscous oil production in the foreseeable future.

Positive view on Russian oil and gas sector

Despite all the hardships in the sector, including the additional debt burden, probable production decline and the anomalously strong ruble, we keep a moderately positive view on the Russian oil and gas sector.

We assume that higher oil prices, dividend payout by most representatives of the sector as well as the presence of non-European outlets will level the above-enumerated risks short-term. At the same time, after the recent plunge, some shares of the sector started to look attractive.

Among them, we single out Rosneft and NOVATEK whose businesses have development prospects. Rosneft will be able to increase the production long-term thanks to Vostok Oil project and can announce an interim dividend payout of 20,4 rubles per share in the next weeks. NOVATEK will probably suffer from the imposition of the export duty on LPG supplies, however, the company benefits from higher gas prices, maintains its plans for expanding LPG production and continues paying out dividends that, we think, can surpass 100 rubles per share by the end of the year.