.The “Big Three” Russian Oils
�� Diversity rules: Gazprom top pick in Russian oil & gas
We have a clear preference for gas-biased Gazprom (Buy, C-1-7) over oil-heavy
Rosneft (Sell, C-3-7) and Lukoil (Neutral, C-2-7). Separately, we have updated
our financial models and investment views on the “Big Three”. In this report we
provide comparative analysis of key operating, financial and valuation metrics, for
Russia’s “Big Three” oil and gas companies. Gazprom and Lukoil trade on similar
multiples (see chart 1) while Rosneft is at a substantial premium even after
adjusting for the recently acquired Yukos assets.
Buy Gazprom We raise our price target to $15/share on the back on rising
confidence in the medium-term earnings, positive developments on projects and
investor sentiment. Our investment thesis centres on: (1) attractive valuation, with
earnings risk skewed to the upside, (2) unique gas industry position underpinned
by unrivalled resource base, (3) sustainable earnings improvement from margin
growth and expansion into new regions, markets and businesses.
Sell Rosneft We have raised our earnings estimates for Rosneft to reflect
incorporation of the Yukos assets in our model, but retain our Sell
recommendation on valuation grounds and increased execution risk. Our capex
and production growth assumptions carry substantial execution risk, e.g. capex
could significantly exceed our current 2008 estimate of $5.0bn.
Neutral Lukoil The stock is inexpensive relative to its peers on near-term
multiples, but does not offer the same earnings growth as Gazprom and Rosneft.
We remain Neutral as we see few stock-specific catalysts and we believe that
Lukoil is well-understood by investors.
Big 5 or Big 3? TNK-BP and Surgut Missing from our line-up are TNK-BP (not
covered) and Surgutneftegas (Neutral, C-2-7), producing 1,381kbpd and
1,302kbpd respectively in H1-2007. Limited free float, poor liquidity and OTCstatus
prevent us from including TNK-BP Holding in the premier group, while
opaque corporate structure and poor corporate governance excludes Surgut.
Russian oils and global liquidity
The recent sell-off in Russian oils has been less pronounced than might have
been feared given global market volatility. We believe that is because global (nondedicated
EM) investors were less invested in the Russian oils following weak
performance in early 2007. The biggest risk to our preference for Gazprom over
Rosneft would be large-scale redemptions in EM, which could hurt liquid, proxystatus
names like Gazprom disproportionately. We see fair value for Rosneft
closer to $7/share but it is unclear if it can breach the IPO price floor ($7.55).