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Challenging first half, mixed prospect for second half

*Nigerian independents worst hit
*Majors reap from price reforms
*2016 may end with refineries still in bad shape

By Emeka Anaeto

Nigeria’s oil and gas industry has passed through some tough operating environment so far this year but the downstream sector appeared to have better chance of reporting good results at year end.

Across the upstream operators Minister of State for Petroleum, Dr Ibe Kachikwu, and the various reports by the National Petroleum Corporation, NNPC, indicates that output went down by about 25 per cent in the first half, H1’26, indicating a corresponding drop in revenue for the operators.

But Kachikwu also said recently that there has been a recovery due to ceasefire between the federal government and the militants, with output rising to about 1.8 million barrels per day, just about 10 per cent below last year’s average.

If the ceasefire is sustained, investment analysts see substantial recovery for the operators though full year revenue may remain below 2015 figures.

Also international oil price, which has been subdued in the H2’15, recovered in the second quarter 2016 from a low of USD27/per barrel crossing USD50/per barrel before reversing to about USD47/per barrel average for most part of third quarter 2016, Q3’16.

With the recent output deal by members of the Organisation of Petroleum Exporting Countries, OPEC, relative stability is expected to be achieved in the fourth quarter, Q4’16, likely above USD50 per barrel.

In all, the upstream sector revenue recovery is expected.

At the backdrop of a rather fragile ceasefire by militants in Nigeria’s oil region, analysts at Cardinal Stone Partners Limited, a Lagos based investment house, stated: “Although oil prices have towered above USD$50 per barrel, disruptions in production will see growth in the sector remain depressed or unchanged throughout H2’16

“If oil prices remain at USD$50 per barrel or trail even higher, and the federal government reaches a truce with the Niger Delta militants, a positive year-on-year, YoY, growth is possible by Q4’16.”

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More drilling activity needed

Nigeria’s rig count, according to Baker Hughes, averaged seven between January and May 2016, the lowest on record for the country since 2009. Between 2010 and 2014, Nigeria averaged 15 active rigs in the country on a yearly basis.

However following the oil price crash in 2014, the country’s rig count has steadily declined and stood at six in May, 2016, reflecting the cut in capital expenditure by oil and gas companies in the country, the inability of the NNPC to meet its cash-call obligations to its joint venture partners and growing security problems facing operators.

Some operators have also decided to scale back their activities and investments due to the regulatory uncertainty in the industry occasioned by the delay in the passage of the Petroleum Industry Bill.

In overall the upstream companies would face a serious dip in revenue as a result of this development.

The analysts at Cardinal Stone Partners said “the drop in drilling activity will have dire impact on the country’s output. Exploratory and appraisal drilling helps in discovering of new reserves, replacement of ongoing production while development drilling adds to output.

Threats to Nigerian independents

The spate of militant attacks on oil and gas assets plunged Nigeria’s oiproduction to a 2 –decade low, with domestic E & P companies that acquired divested interests of international oil companies, IOCs, in onshore assets the major casualties. Though a significant respite has been enjoyed in the past two months, industry observers believe without some form of compromise from the federal government, the attacks would resume in Q4’16.

According to the analysts at CardinalStone Partners “this means we may see continued attacks and further drop in Nigeria’s oil production output in H2’16.

They stated: “Domestic E & P companies have been major casualties of the collapse in oil prices and ongoing rise in militant activities in the Niger Delta.

“While low oil prices had already constrained cash flow from their oil fields, jeopardizing their cashflow, the militant attacks in the Niger Delta have made it worse, especially for the firms that acquired assets linked to the Trans Forcados System and Nembe Creek Trunk line.

Following a major crack-up of a giant underwater pipeline in mid-February and subsequent militant attacks by the Niger Delta Avengers, the terminal, which exports over 300,000 bpd has been shut down since then.

“The companies dependent on these pipelines such as Aiteo, Seplat, and Pillar Oil have faced difficulty in getting their products to market since the terminal was shut. Most have not been able to lift crude barrels since March and have resorted to various creative methods to sustain their operations such as moving their crude via barges to other loading terminals, rerouting where possible through other pipeline systems and also storing crude at the refineries.

“These methods have however not compensated for the drop in cashflow due to the losses already suffered or inability to access their main terminal.

Commenting on the H1’16 results and H2’16 outlook for the upstream operators, analysts at Cordros Capital Limited, another Lagos based investment house, said “adding to lower oil price was the production challenge in the country, with the rampaging activities of the militant groups, which disrupted output from Shell, Chevron, ExxonMobil and Agip pipelines.

“Heightening this array of challenges is a recent report that refineries from India and the United States are backing away from buying Nigerian oil amid elevated uncertainty about deliveries. It suffices to say that we remain bearish on our outlook for the oil sector.

“However, the recent deal to restore pipeline protection contracts to ex- militants and a ceasefire order in the Niger Delta region to open dialogue window with militant groups; are potential drivers to help improve oil production which has been scuttled by pipeline attacks from agitators in the region”.
Downstream: Price increase shore up topline
For the downstream operators there has been a mixed development over H1’16 and Q3’16, which in overall, would determine their full year financial results.

Nigerian major oil marketers have recorded significant gains in H1’16, a year in which other sectors continue to struggle.

Mobil Oil Nigeria (Mobil) and Total Nigeria (Total) posted average sales and earnings per share (EPS) growth of 44% year-on-year (YoY) and 161% YoY respectively in H1 2016.

However, analysts believe the primary driver behind the sales growth was market share gains due to comparatively better access to foreign exchange for product importation compared with independent marketers.

Furthermore, the re-pricing of gasoline in May 2016 supported growth in Q2’16. The Petroleum Product Pricing Regulatory Agency (PPPRA) raised the foreign exchange assumption in its pricing template by more than 40% to N285/US$ to better reflect market realties. This led to a quarter-on-quarter improvement in gross margin for Mobil and Total during the quarter, thanks to relatively cheap inventory.

In addition to topline growth, the government’s decision to adopt a price modulation policy, thereby discontinuing the petroleum subsidy regime, improved balance sheet efficiency for both firms.

Of the two, Total delivered the stronger growth with sales up 30% YoY while EPS grew by 271% YoY. Mobil’s topline and EPS grew by 58% YoY and 52% YoY respectively.

However, giving a forecast performance for the companies analysts at FBN Merchant Bank Limited stated: “We expect slower topline growth and a contraction in gross margin, down to normalised levels, in H2’16, more so for Q4’16, following the floating of the Naira in June.

“Nonetheless, the impact of slower growth in Q4’16 is likely to be negligible to overall growth given that H2’15 was a difficult period for the sector.

“As such, we forecast an average sales and EPS growth of 44% YoY and 165% YoY respectively in 2016.

The analysts also posit that to an extent, increasing Mergers and Acquisitions, M&A, activities this year contributed to the improved visibility the sector currently enjoys.

Broader market outlook mixed

The Petroleum Products Pricing and Regulatory Agency reviewed the pump price of petrol in Nigeria upwards by nearly 70% from N86.50 to N145.00 per litre in May 2016. The move was largely due to the spike in crude oil prices from a H1’16 low of $27/barrel in January to a high of $48/barrel by May.

This would have brought back the contentious issue of subsidy which was not budgeted for by the federal government. This had resulted in high level of over-recoveries for the marketers starting from April.

However, following the upward revision to the pump price, daily gasoline consumption has dropped by as much as 30%, according to Major Oil Marketers Association of Nigeria (MOMAN). This would obviously have adverse effect on the full year results of those operators who are unable to retain their market share.

Midstream: Refineries still down

Following the conclusion of turnaround maintenance and repair works to vandalized crude pipelines feeding the refineries, average Q1’16 capacity utilization for all three refineries – Port Harcourt, Warri and Kaduna – stood at 11.0% much better than the 2.2% recorded in Q4’15.

To raise capacity utilisation to about 90%, further investment is needed and consequently, the NNPC issued a tender seeking investors to jointly fund the repairs which are expected to cost US$700 million.

The investors will also run the facilities, which will enable Nigeria eventually expand existing refineries to refine up to 650,000 barrels per day of domestic crude oil.

However, the process suffered a setback after lawmakers in the House of Representatives called for a halt on the ground that state privatization agency, Bureau of Public Enterprise, was not involved which was in breach of Nigerian law.

Without much headway in resolving this process and with the state of the refineries, there is little room for optimism and industry analysts expect Nigeria to still import the bulk of its petroleum product needs all through 2016


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