Article / 13 May 2015 at 7:22 GMT

SurgutNG's $34bn question, again

Russia oil and gas expert
United Kingdom
  • SurgutNG has accumulated a cash pile and there is speculation about its fate
  • There's a suggestion it might buy the government stake in Rosneft 
  • The money perhaps shows how few opportunities an oil company has in Russia


By Nadia Kazakova 

It is the news story which would be celebrating its 20th anniversary this year. Back in December 1995 the headline was “Rosneft aims for Surgutneftegas deal”. Media ran reports and analysts hypothesised about a possible merger/tie-up/asset swap between the two Russian oil majors in July 2007, June 2009 and then December 2010. Rosneft's acquisition of TNK-BP in 2013 should have been the conclusive evidence that Rosneft and Surgutneftegas (SurgutNG) were just not meant for each other. 

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 The cash pile shows how few opportunities an oil company has in Russia. Photo: iStock

Yet the story refuses to go away. It is back in the headlines, and this time the suggestion is that the cash-rich SurgutNG might be buying the government stake in Rosneft. Understandably, the markets have been sceptical on any upside for Rosneft (down 0.78% to $5.06 per ADR), but they have been marked down SurgutNG's shares, just in case. SurgutNG ordinary ADR was down 3.25% to $7.00 per ADR and preferred ADR was down 3.84% to $7.76 per ADR, at close May 11.  

The reason why the story has been doing so many rounds is the fact that SurgutNG has been steadily accumulating a giant cash pile. There is inevitable speculation about its fate (a light-hearted story in rbc.ru listed a few options, including paying off the entire Ukrainian state debt, sending people to Mars or buying 72,000 standard gold bars). 

Over the last five years, the total has gone up from around $20bn at end 2010 to over $34bn at end 2014. The money has been sitting mostly in long-term deposits (with maturity of over one year) with the Russian banks. Deposits (at end 2014) were made almost exclusively in US dollars. The funds earned (pre-tax) were just under 4% in annual interest in 2014, not a bad level for a bank deposit, but a sub-par return for a Russian oil company (SurgutNG's normalised return on equity is probably in the low teens in US terms).

Arguably, the cash pile itself shows how few opportunities an oil company (admittedly, a very risk-averse one) might see in Russia. In normal circumstances, a company with no investment projects and lots of cash would be paying out dividends. SurgutNG does pay dividends (strictly in line with its charter), while most of the money seems to be held back for a rainy day. The situation is just short of grotesque: SurgutNG's market capitalisation of around $31bn (at May 11) is less than the size of its USD bank deposits.

However sceptical one might be about the current iteration of the Rosneft/SurgutNG story, it makes sense at least in one respect. As the government is scrabbling around to fund Rosneft's investment projects (so that Rosneft does not need to chose between paying off debt or producing oil), the cash pile at SurgutNG presents an easy target. 


 
Source: Companies' financials, RUB converted into USD at official FX rate 

However, there are a few problems with the idea of SurgutNG buying the government's 19.5% stake in Rosneft. If the transaction is done at a market price ($5 per share), it would be short of the state privatisation target for Rosneft's shares ($7.55 per share, at the level of initial IPO). If SurgutNG overpays, it would have to show a loss (over $5bn), which would easily wipe off the company's annual profit. Such a move might cause an outcry from minority investors. 

If the raised cash is then recycled back to Rosneft and then used for investments (or to repay debt), it would present a funding problem for Russia-based banks, which currently hold SurgutNG's deposits. According to Bloomberg, Sberbank holds $14bn in SurgutNG's depoits, VTB $7bn and Gazprombank $3bn, with the remainder mostly at UniCredit. 

The good news is that Rosneft might refinance more of its FX debt without putting too much pressure on FX markets. Some of SurgutNG's USD deposits would be simply used to pay off Rosneft's FX debt. The cost of borrowing for the company might also go down, which should boost net income and dividend. A higher dividend would be, indirectly, a good news for BP, which has a 19.5% stake in Rosneft.

For all the excitement about potential uses of SurgutNG's cash pile, the company's accounts might just throw some cold water on the idea. The IFRS financials for 2014, published on April 30, state that the management believes that there would be no need to use long-term deposits of the company in the foreseeable future.


--Edited by Susan McDonald


Nadia Kazakova is a specialist on Russia, particularly the oil and gas sector. Read more of her views on social trading leader Saxo Bank's content platform, TradingFloor.com

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