Russia’s global oil champion has yet to win over investors.
OAO Rosneft (ROSN) Chief Executive Officer Igor Sechin addressed shareholders today for the first time since his $55 billion acquisition of TNK-BP created the world’s largest publicly traded crude producer. The shares are down 18 percent this year, under-performing Moscow’s benchmark index as well as competitors OAO Lukoil (LKOH) and OAO Surgutneftegas and wiping about $22 billion from the value of the company.
The slump widened the valuation gap between Rosneft and the global oil producers it wants to emulate and may stymie Russia’s plans to sell a further 19 percent of the company. Concerns range from corporate governance -- Rosneft’s refusal to buy out minority shareholders in TNK-BP rankles some investors -- to capital spending plans and rising debt.
“They have taken over the most productive, efficient set of energy assets in Russia and many in the market fear Rosneft are already starting to impact them negatively,” said Michael O’Flynn, managing director of UFG Asset Management, which has $1.5 billion under management in Russia and doesn’t hold Rosneft shares.
Sechin, a former deputy prime minister and a long-time ally of President Vladimir Putin, plans to show the company’s desire for international standards of governance by electing ex-Morgan Stanley (MS:US) CEO John Mack, former Exxon Mobil Corp. (XOM:US) vice president, Donald Humphryes, and BP Plc (BP/) CEO Bob Dudley to the board this week.
“All of them have extensive experience in the oil and financial sector, which will undoubtedly increase the overall level of corporate governance,” Sechin said during a call with investors in April. The TNK-BP deal was completed in March.
Rosneft’s press service declined to comment beyond Sechin’s public statements.
Rosneft, 70 percent owned by the Russian state, is holding its shareholders meeting to coincide with the St. Petersburg Economic Forum, which will see Putin welcome global business leaders and pitch for foreign investment.
Russia, seeking to raise money from the sale of state assets, may put 19 percent of Rosneft up for sale as early as this year, Economy Minister Andrei Belousov said in April.
Still, the risk of investing in companies controlled by the Russian government, where the goals of the state may be put before shareholders, helps explain Rosneft’s discount to international oil companies, said Alexander Burgansky, an analyst at Otkritie Financial Corp.
Rosneft shares trade at a price equal to 6.1 times earnings. That compares to 11.5 times at Exxon Mobil, 9.4 times at Chevron Corp. (CVX:US) and 8 times for Royal Dutch Shell Plc. (RDSA)
Rosneft gained 1.2 rubles, or 0.6 percent, to 220.54 rubles in Moscow trading today.
“Sentiment has been undermined by major corporate governance concerns,” said Lev Snykov, a partner at Greenwich Capital in Moscow. “Investors worry Rosneft might lose efficiency as it gets bigger and will no longer be focused on their interests.”
Rosneft had to borrow to finance the TNK-BP acquisition and the company’s debt to equity ratio rose to 66 percent in the first quarter from 26 percent at the end of 2012, according to data compiled by Bloomberg. While capital spending will only rise by the rate of inflation this year to about 480 billion rubles ($14.9 billion), the company has pledged to invest $18 billion upgrading oil refineries by 2018.
A revival in Rosneft’s share price is important for BP, which took an 18.5 percent stake in the company as part of the TNK-BP deal, making the London-based company the largest foreign equity investor in Russia.
“Improving the total shareholder return via dividends and price appreciation is a primary focus for BP in its relationship with Rosneft,” Scott Sloan, president of BP Russia, said in an interview in Moscow. “In order to support this, BP is willing to work with Rosneft to assist in implementing the best technology to fit its projects.”
Winning back investors won’t be easy after Rosneft annulled a dividend for last year’s profit at TNK-BP’s traded unit, TNK-BP Holding (TNBP), according to Eric Kraus, who manages about $200 million at Nikitsky Capital. Instead of paying a dividend, Rosneft may borrow cash from TNK-BP Holding, bypassing the minority owners who still own about 5 percent of the company.
“Depriving the minority investors of their rightful dividend is penny-wise but extremely pound-foolish,” said Kraus, who doesn’t hold any Rosneft shares. “If this is how they treat minorities when they are trying to drum up interest in a privatization, how will they treat them once they have their cash?”
Still, Rosneft’s production and reserves remain world-leading for a publicly traded company. Oil and gas output equivalent to 4.7 million barrels a day and 33.9 billion barrels of reserves both top Exxon. Rosneft also holds rights to acreage on Russia’s Arctic shelf, one of the world’s largest unexplored oil frontiers.
Rosneft is preparing a contract to sell China oil valued at more than $60 billion, Putin said in St. Petersburg today.
Production from offshore Arctic fields could start as early as 2018, Sechin said at today’s shareholder meeting.
The company expects $12 billion in cost savings by 2016 through combining pipelines, trading and transportation with TNK-BP, Sechin said.
The market for Russian crude oil has weighed on Rosneft’s share performance. Urals crude export prices have slid from a high of $116.76 a barrel on Feb. 8 to as low as $95.28 on April 17. Rosneft’s shares traded at 220 rubles in Moscow today implying a current valuation of about $71 billion.
Pressure on the commodities sector and the corporate governance issue are bringing Rosneft shares down, said Tim McCarthy, who helps manage $1 billion at Valartis Asset Management in Geneva.
“Companies need to be more efficient when their key product prices are falling,” McCarthy said. It will be key for Rosneft to stop TNK-BP talent from leaving the company, he said.
About 90 percent of the managers at TNK-BP Management, or 1,600 people, have made the switch to Rosneft, according to a statement on the company website. Even so, executives from TNK-BP in production, planning and procurement as well as the head of TNK-BP’s largest production unit, Samotlor, have already been replaced, according to a May press release. Those departures are in addition to previous top management of TNK-BP, most of whom left in March.
“I suppose these big names on the board will help improve sentiment, but investors will want to see action,” McCarthy said. “Stemming the outflow of good managers from the TNK-BP team would be a start.”
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