Big players in Russia's oil & gas sector are struggling to make headway against a deteriorating oil price and sluggish export market. That's reflected in the country's growth rate, which slowed to just 1.1 per cent during the first quarter from 4.9 per cent a year ago. The situation south of the border is perhaps even more acute, with Ukraine on the verge of slipping back into outright recession. Yet, prospects elsewhere in the region are better and western oil firms are finding rich pickings.
Despite wider economic challenges, there has been no shortage of strategic activity within the sector over the past few months. Igor Sechin - key Putin ally and head of state-controlled energy giant Rosneft - has been able to consolidate power and exert ever more control over Russia's oil & gas industry, which is no mean feat given that it accounts for around a quarter of the country's economy. The Rosneft chief's uncompromising attitude hasn't been lost on minority shareholders of the TNK-BP venture - Russia's third largest oil company. They've been left high and dry following Rosneft's acquisition of BP's (BP.) 50 per cent stake for $16.7bn (£10.9bn) and a slug of shares that push the UK firm's stake in Rosneft to almost 20 per cent. Chief executive Bob Dudley gets a seat on the board, too.
Shares in TNK-BP hit the skids after Rosneft announced it wouldn't buy out minority shareholders when it acquired the venture's parent company from BP and the AAR consortium. It got worse when Rosneft subsequently warned it could take billions of dollars in loans from TNK-BP units - no one could ever accuse the Russians of timidity.
Regrettably, the deal not only reinforced investor anxieties over the issue of Russia's corporate governance, but it also supports the view that Igor Sechin - and by extension Vladimir Putin - is privately opposed to the liberalisation agenda being pushed by other Kremlin insiders, most notably prime minister Dmitry Medvedev, which would involve the privatisation of more state-controlled energy assets. If anything, Russia's Energy Tsar seems intent on reeling them back in.
Critics have claimed that Sechin's hard-line approach could prove counter-productive as increased interventionism from Moscow is likely to inhibit inward investment over the long run. However, judging by recent deals, it's obvious that the technical expertise of the west's integrated majors is still in demand, regardless of any resource nationalism at play. Russia remains open for business, albeit on Comrade Sechin's terms.
Rosneft and US major ExxonMobil (NYSE: XOM) are already actively considering investing $15bn in a liquefied natural gas (LNG) plant near Vladivostok in the Russian Federation's Far Eastern territories. The deal is part of a multi-billion dollar exploration partnership forged last year to develop Russia's energy reserves in the Arctic and Black Sea. Initially, it is seeking to develop three fields in the Arctic with estimated recoverable oil (equivalent) reserves of 85bn barrels.
A final investment decision on the projects in the Kara Sea is expected during 2016-17, but the LNG proposal to supply Asia Pacific markets is not only significant because it could weaken Gazprom's (OGZD) monopoly on Russian gas exports, but it could also signify that Moscow is pursuing a strategic shift eastwards in terms of its energy exports. Gazprom itself is also moving ahead with an LNG project on the Lomonosov peninsula in Perevoznaia Bay in eastern Siberia.
Around a third of Europe's economies are almost totally reliant on energy imports and Russia supplies 33 per cent of the European Union's natural gas needs. But an increasing proportion of the continent's generating capacity is dependent on these supplies, which represents not only a strategic security issue for EU mandarins, but also renders Gazprom - and the Russian Federation - exposed if Europe was to somehow secure another large-scale alternative source of LNG. Industry analysts are now suggesting that Russia's Cold War sparring partner could do just that.
The US shale gas industry's rapid expansion has caught many by surprise, and has opened up the possibility that Europe may one day be able to secure a significant share of its gas requirements from Uncle Sam. Only one US company thus far - Cheniere Energy (NYSE: LNG) - has been given federal approval to commence exports and is building a $10bn natural gas export terminal at its Sabine Pass site. But if Washington can guarantee that US Henry Hub gas prices will remain significantly lower than global export prices - which are usually predicated on crude oil - then other licences will surely follow.
It's not known if the competitive threat of cheap US shale gas exports has informed Russia's energy policy, but the country has been in high-level talks with Japanese officials on expanding gas supply agreements. If large-scale export agreements were secured with Tokyo - post Fukushima Japan is the world's biggest LNG importer - it could potentially facilitate Russia's long-term ambition to send East Siberian gas down a pipeline to China. Who needs Europe?
| Share price (£) | Market Cap (£bn) | 1-year high (£) | 1-year low (£) | % change 3 months | % change 1 year | % change 3 years | PE ratio | Dividend yield | |
|---|---|---|---|---|---|---|---|---|---|
| Gazprom | 2.49 | 58.9 | 3.54 | 2.49 | –18.1 | –31 | –62.5 | 2.3 | 7.5 |
| OC Rosneft | 4.46 | 47.7 | 5.71 | 3.99 | –18.1 | 0 | –7.3 | 5.9 | 3.5 |
| LUKOIL | 39.01 | 32.9 | 42.29 | 32.98 | –6.7 | 4.6 | –12.7 | 4.2 | 4.1 |
| Tatneft | 3.65 | 8.1 | 4.69 | 3.1 | –20 | –4.4 | 14.5 | 5.5 | 2.9 |
| Royal Dutch Shell | 21.48 | 135.4 | 23.67 | 20.39 | –4.8 | –1.6 | 14.2 | 7.9 | 5.1 |
| Total SA | 30.39 | 72.3 | 35.78 | 28.76 | –9.6 | –2.2 | –30.6 | 7.5 | 6.6 |
| Exxon Mobil | 57.29 | 256.1 | 61.25 | 50.85 | –3.7 | 2.5 | –7 | 9.0 | 2.6 |
| Statoil ASA | 15.21 | 48.5 | 17.3 | 14.88 | –5.7 | –11.4 | –19.6 | 6.3 | 5 |
IC VIEW:
Russia's energy heavyweights were obviously quick to tap institutional investors in the west, with the likes of Rosneft, Gazprom, Tatneft, LUKOIL and Novatek all trading through Global Depository Receipts (GDRs) or American Depository Receipts (ADRs) on the LSE. Retail investors, however, will find gaining direct exposure to these companies more problematic than their equivalents in the mining sector, or perhaps even oil & gas producers from other former Soviet states (CIS). Given the heavy weighting ascribed to these stocks, it's possible for UK investors to gain exposure via a dedicated regional Oeic such as Neptune Russia & Greater Russia Fund, or tradable instruments like iShares MSCI Russia Capped Index Fund. That said, you would be swimming against the tide at the moment, particularly after the Cypriot bailout terms, which had wholly negative implications - Russian lenders and companies had at least $60bn tied-up in Cypriot banks. Nevertheless, a lowly prospective earnings rating of 5.1 on Russia's MICEX index certainly implies good value as it represents just half the forward multiple of the MSCI Emerging Markets Index. Investors, however, haven't been tempted - at least $1.3bn has been pulled from Russia-indexed equity funds this year, as managers have grown progressively frustrated by perceptions over corporate governance and unfulfilled promises over reforms.
