Oil & Gas



This forecast has been prepared in accordance with General Principles of Socioeconomic Indicators Forecasting.

  • Restoring market equilibrium and increasing shale oil production costs should support oil prices. If the production freeze agreement lasts into 2H2017, the market should face supply shortage that should persist until equilibrium returns in the long run on the back of insufficient investments in 2015-2017. Shale oil production costs, which are to remain a major long-term price benchmark for the oil market in the US, are expected to climb as investment activity in the oil industry recovers.
  • Commissioning of new large oil fields will ensure production growth in Russia until 2020. Although bound by the production limitation agreement, Russia should still be able to build up production in 2017, even if the agreement is prolonged into 2H2017, with further production growth expected in 2018-2019.
  • Refining segment upgrade to continue despite the so called Big Tax Maneuver (BTM). The year 2017 should see Russian refineries commission and finish reconstruction of 8 processing units. Launching new capacities under quadripartite refinery modernization agreements may bring about an increase in refining volume until 2020.
  • Oil product output growth outstripping demand should foster oil product exports growth. At the same time, building up refining depth should result in lower fuel oil exports. Oil production growth in Russia coupled with relatively slow processing volume increase is expected to bolster crude oil exports until 2018.
  • Capital expenditures of vertically integrated oil companies (VIOC) are to climb moderately until 2019. Oil production investments should boast the fastest growth, while oil refining investments will hardly regain record levels seen in 2013-2014. VIOCs are likely to see their financials on the upside fueled by building up production and rising oil prices. Coupled with a declining capex share in EBITDA, this should entail an increase in free cash flows the integrated oils will likely use to reduce their debt burden and pay out heftier dividends.

Table 1. Russian oil sector indicators forecast for 2017-2021.

* Base case forecast accounts for production freeze agreement prolongation into 2H2017, with agreement’s parameters remaining unchanged. If the agreement is not prolonged, oil production in 2017 should amount to 552.5 mln t, while oil exports are to run into 257.3 mln t.
Source: ACRA

Restoring market equilibrium and increasing shale oil production costs to support oil prices

The total production cut in 1H2017 under the agreement stands at 1.76 mbd, of which 1.2 mbd falls to the share of OPEC and 11 non-member countries accounting for 0.56 mbd (including Russia’s share of 0.3 mbd).

The situation on the global oil market in 2017 is largely defined by an agreement on oil production limitation, which became effective in January 2017. The agreement helped balance the oil market and stabilize prices in 1H2017. Its prolongation into 2H2017 may be agreed upon at the next OPEC meeting scheduled for May 25. We believe that the agreement will most likely be extended, which, coupled with a seasonal demand increase expected in 2H2017, should entail some 1.5 mbd of sustainable oil supply shortage on the market.

In the long term, the market may regain equilibrium regardless of whether the production freeze agreement is extended or not. Insufficient oil production investments across the globe in 2015-2017 will negatively affect production over the next five years. The IEA estimates that production capacity will add 5.6 mbd by 2022, while demand for the period is to climb 7.3 mbd. Most of the production increase will be fueled by OPEC (up 2 mbd). Beyond the cartel, production should grow in the US (up 1.6 mbd, of which 1.4 mbd will be contributed by shale oil), Brazil (up 1 mbd) and Canada (up 0.8 mbd). On the other hand, the most significant decline in production is expected in China.

According to Baker Hughes, global oil production investments will drop 35% in 2015-2017 versus 2012-2014.

Structural costs are average costs for the economic cycle period.

If oil prices reach the base forecast levels, the exchange rate should fluctuate within RUB 62-68/USD in 2017-2021, while the federal budget should consolidate, provided that the new budget rule is used. See the ACRA March 28, 2017 research titled “Russian Economy: Recession Knocked Out. What Next?”

Low margins and high business model flexibility of US shale companies make shale oil production costs in the US the major long-term price benchmark for the oil market. According to Baker Hughes, production costs on operating fields decreased from USD 80/bbl in 2014 to USD 48/bbl in 2016, although some 70% of this reduction is due to cyclical, not structural reasons, as servicing companies dramatically cut their tariffs following the decline in demand for drilling. We estimate that structural costs of shale oil production currently stand at around USD 59/bbl, and drilling volume recovery seen since February 2017 is bound to translate into higher costs.

Figure 1. Drilling growth in the US should entail more expensive oilfield services and higher production costs

Source: ACRA estimates

Commissioning of new large deposits to ensure production growth

Russia’s participation in the production limitation agreement will not hamper the country to build up production in 2017. Production decline in the country has been calculated based on the October 2016 level of 11.247 mbd, and the agreement to cut production by 0.3 mbd means that production will be slightly above the 2016 annual average (10.947 mbd against 10.94 mbd). That said, the production annual average will slightly exceed the agreed limit, as the decline was not an immediate process and production scaled down to the required minimum only in May. As a result, if the production freeze agreement is prolonged into 2H2017, one may expect a slight production increase in 2017 to 549 mln t versus 547.5 mln t in 2016.

The Kondinsk group of fields includes Kondinskoye, West-Erginskoye, Chaprovskoye, Novoyendyrskoye deposits, whose cumulative production is expected to peak at 5 mln t per year.

Production at Nazymskoye and Ai Yaunskoye should peak at the total of 3.3 mln t per year.

Gavrikovskoe is expected to peak 2.5 mln t per year.

Erginskoye should reach its production peak at 5 mln t per year.

See the ACRA January 30, 2017 analytical comment “Future looks promising for oil producers”.

After taking a break in 2011-2013, Russia is back on track with a dramatic surge in commissioning of new large oil fields that expect to deliver production peaks of in excess of 1 mln t per year. This will ensure oil production growth in Russia till 2019-2020. Given that production profitability remains relatively high, and in view of the fact that much of investments in developing new oilfields have already been made, we believe that the companies’ plans regarding new field launches will be fully implemented. The overwhelming majority of new deposits in 2017-2021 will be commissioned by Rosneft. In contrast to our previous estimate, this time we take into account the impact of Kondaneft, acquired by Rosneft from Independent Petroleum Company (IPC) in spring 2017. At the moment, Rosneft is striving for accelerated commissioning of the Kondinsk group of fields in 2017. Previously, we did not take Kondaneft’s fields into account, as the timing of their development was uncertain due to IPC’ difficult financial position. Of the large fields, we count out Nazymskoye and Ai Yaunskoye, as Rosneft obtained licenses for their development only on December 27, 2016, and we do not expect their commercial launch within the forecast horizon. We also discount Gavrikovskoe field, licensed to NZPN Trade, in view of uncertainty around its development pace. In addition, a license for Erginskoye deposit development is expected to be sold in July 2017. This deposit may well be put into operation within the forecast period.

Figure 2. New deposits will ensure production growth in Russia until 2020

Source: ACRA estimates

Table 2. Timeline for commissioning of new large oil fields (with production peak above 1 mln t per year)

Source: ACRA estimates

Figure 3. New project launches resumed after a pause of 2011-2013 (cumulative production peak at all commissioned fields, mln t per year)

Source: ACRA estimates

Refining modernization to continue despite the negative BTM effect

The BTM (Big Tax Maneuver) involved a reduction in export duties on crude oil and light oil products along with a simultaneous increase in MET and export duties on dark oil products in 2015-2017.

Russian refining margin fell sharply in 2015-2016 after the BTM was introduced and oil prices fell. As a result of lower oil prices, elevated export duties on fuel oil, and reduced ones on crude oil, the export subsidy dropped dramatically from USD 16/bbl in 2014 to USD 6.5/bbl in 2017 (with Urals price standing at USD 50/bbl and accounting for increased refining depth). Lower profitability translated in upgrade postponement at a number of refineries. At the same time, the completion of previously launched projects (12 new facilities were put in operation in 2016) allowed to bring oil refining depth in Russia up to 79.2% in 2016 versus 74.3% the previous year.

A significant part of new capacity slated for commissioning falls to the share of Rosneft refineries. Simultaneously, the company invests heavily in oil production (a more profitable business in current conditions) and in terms of cumulative production peak should account for over 80% of new oilfield launches in Russia in 2017-2021. Given peaking investments in oil production and low refining profitability, Rosneft may delay refinery upgrades, which will affect the overall pace of Russian refining sector modernization.

Export subsidy is an additional revenue refineries get from the difference between export duties on crude oil and oil products.

At the same time, the new structure of oil product exports taxation does not rule out the export subsidy and creates incentives for modernization while oil prices stand above USD 50/bbl. Commissioning of new capacities that have already absorbed the major part of investments under quadripartite refinery modernization agreements allows to count on an increase in refining volume over the period ending 2020. The year 2017 should see commissioning of and reconstruction completion at eight processing units of Russian refineries, which will increase oil processing depth to 80.9% and boost gasoline and diesel fuel output by 1.8% and 3.3% respectively.

Figure 4. Demand for oil products to grow much slower

Source: ACRA estimates

Oil product output grows faster than demand and should foster exports

A drastic drop in new car sales along with rising motor fuel prices have translated into a slowdown in gasoline demand growth in Russia after 2014. As real household income is expected to rise slowly within the forecast period, new motor car sales in Russia look set to post a relatively modest recovery in 2017-2021. As a result, we expect the total car fleet to grow just 14.3% in five years versus a 24.4% climb seen over the previous five-year period. On the back of gradually building up fuel efficiency, this should result in domestic gasoline demand stagnation, while demand for diesel fuel is expected to fare slightly better.

Outstripping gasoline and diesel fuel production growth will require a substantial increase in exports of these products. By our estimates, gasoline exports will add 7.7 mln t in 2021 versus the 2016 level (up 90%), while diesel fuel exports should post a respective climb by 9.3 mln t (up 20%). At the same time, increasing refining depth should curtail fuel oil exports by 10.9 mln t (down 25.7%).

The BTM implementation, coupled with the decline in oil prices, has reversed the trend of waning crude oil exports from Russia that emerged in 2010 and persisted until 2015. Moreover, Russian crude exports boasted a historical high in 2016. By our estimates, domestic oil production growth backed by a relatively slow increase in refining volume might foster crude exports climb until 2018 (up to 263 mln t per year) to be followed by stabilization at around 260 mln t per year by 2021.

Figure 5. Crude oil exports to keep growing until 2018

Source: ACRA estimates

VIOC capex to grow until 2019

Seven VIOCs are Russia’s largest vertically integrated oil and gas companies: Gazprom, Rosneft, LUKOIL, Surgutneftegas, Tatneft, Bashneft, and NOVATEK. In 2016, they enjoyed a more than 80% cumulative share in country’s total oil production.

Total capital expenditures of Russia’s seven largest VIOCs declined 7.6% in 2016 in ruble terms, despite record high oil production growth rates. This reduction was related to the completion of infrastructure investments in the course of preparing new fields for commercial operation and supported by the decline in refinery modernization investments amid falling refining margins as a result of the BTM and falling oil prices. Another blow to investments in 2017 came from a tax burden increase fueled by the export duty freeze, which, even despite decreasing capex, has boosted the latter’s share in VIOCs’ EBITDA to a record high of 71.9%.

In 2017, investment growth will be hampered by the oil production freeze, although the general upward trend should resume together with VIOCs putting new oilfields in operation and is expected to continue until 2019. Oil production will show highest growth rates, while investments in refining will hardly reach record levels of 2013-2014 within the forecast period.

Production increase and oil price growth, coupled with a decline of the capex share in EBITDA, is expected to boost VIOCs’ financials and free cash flows, with the latter to be used most likely for reducing debt load and paying out higher dividends.

Figure 6. VIOCs to see their capex peak in 2019

Source: ACRA estimates

Figure 7. Additional investments to be directed to the production segment

Source: ACRA estimates
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Vasilii Tanurcov
Director, Corporate Ratings Group
+7 (495) 139 03 44
Maria Mukhina
Operating Director
+7 (495) 139 04 80, ext. 107
Natalia Porokhova
Senior Director, Head of Sovereign Ratings and Forecasting Group
+7 (495) 139 04 90
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