Gazprom Neft - Initiation of analytical coverage

12M TP - RUB319/share, BUY recommendation

Altynay IbraimovaDecember 29, 2017

Strong positions of Gazprom Neft on the market, including the company's strong ability to respond to negative market changes, are the main indicator of the stability of the company's financial performance. Increased optimism about oil prices and the prospects for a growing consumption of oil products strengthen the company's position and are a good reason for anticipating positive cash flows. We estimate the 12M upside potential of Gazprom Neft's share price at 28% and we recommend to BUY Gazprom Neft shares with 12M target price of RUB319/share.

Gazprom Neft is among the top three Russian oil companies in terms of oil refining volumes and ranks fourth in terms of oil production. The main activities of the Company are exploration, development of oil and gas fields, production of oil and gas, production of petroleum products, as well as their sale on the retail market. Gazprom Neft structure includes more than 70 oil producing, oil refining and marketing enterprises in Russia, CIS countries and abroad. In addition to its own production, the Company has a 50% stake in Slavneft, Tomskneft VNK, Salym Petroleum Development (SPD), SeverEnergia (40.2%) and NIS (56.15%). Gazprom Neft is among the top three Russian oil companies in terms of oil refining volumes. Gazprom Neft products are exported to more than 50 countries. The share of high-tech wells at the end of 2016 is 50%, which is the largest indicator among Russian oil and gas companies. In addition, the Company was among the first to start oil production on the Russian shelf of the Arctic.

Favorable outlook on the oil market and increased consumption of petroleum products will support income. The bulk of Gazprom Neft's sales is oil products – 68% for 9M2017. According to Eurostat, the main consumer of oil products is the transport sector, in the structure of which 48% of demand is generated by road transport. The Russian automotive market, in view of the significant deferred demand accumulated since the beginning of the market contraction in 2013, shows signs of recovery, thereby increasing the potential for sales of petroleum products. At the same time, optimism about oil prices is increasing, OPEC measures and demand from China are a strong argument in favor of restoring oil prices.

Attractive dividend story. In the end of 2016, Gazprom Neft paid a record dividend in the company's history of 10.68 rubles per share, 25% of net profit, while dividend policy implies payment of at least 15% of net profit. Taking into account the results of 9M2017, we expect net profit growth by 29% yoy to 271bn rubles in 2017. If the Company keeps dividend payments at the level of 2016, we expect that the dividend for 2017 will be 14.31 rubles per share. We see the potential for increasing dividend payments and believe that the Company will prefer to adhere to a payout ratio of 25% during the entire forecast period.

Exchange rate policy of the Central Bank of the Russian Federation ensures the Company's sustainability to oil shocks. Gazprom Neft's revenues are composed of the sale of oil, gas and oil products. The company's revenue for the past three years demonstrates strong growth (CAGR - 7%), despite a significant correction in oil prices, due to the depreciation of the ruble. Over the past three years, despite the low oil prices, we have not seen a reduction in the cost of acquiring oil, gas and petroleum products, as well as saving on oil taxes. However, we note that, due to low oil prices and the transition of the Central Bank of Russia to a floating exchange rate regime the growth in expenses was slower (+4%) and did not show significant growth in comparison with revenues (+52%). We believe that the company is resistant to fluctuations in oil prices due to the adapted exchange rate policy of the Central Bank of Russia and increased production.

12M TP RUB319/share, BUY recommendation. In our opinion, the increase in the sale of oil products, accompanied by the gradual stabilization of oil prices, will contribute to a steady increase in the prices of Gazprom Neft shares. We also note the high liquidity of the Company's shares, the average daily trading volume of which is 192mn rubles. We estimate the fair value of one share at 319 rubles and we recommend to Buy.