Tax overhaul heaps pressure on Russian refiners
More expensive feedstock threatens independent operators
Russia's biggest oil tax overhaul in decades is having a profound impact on its refining sector, forcing operators to upgrade their plants or risk being forced out of the market. The changes introduced this year have also put pressure on domestic fuel prices—a politically sensitive issue—and could spur further consolidation of the industry.
Russian refining margins have further weakened this year following the launch of Moscow's so-called 'tax manoeuvre'—a six-year plan to phase out export duties on crude oil and petroleum products and raise mineral extraction tax (MET). While the reforms will enable Russian oil exporters to better compete, they will also drive up the cost of domestic feedstock for refiners.
Adapt or die
The overhaul is broadly aimed at generating more tax income from the industry, with Moscow-based consultancy Petromarket Research Group estimating that the government will receive an extra RUB631bn ($9.8bn), a 9.3pc increase, in receipts in 2024 as a result of the changes.
Another goal is to encourage refinery operators to invest in improved and more complex capacity. Those that produce large volumes of fuel oil and other heavy distillates will have to modernise their plants to produce higher-value, lighter products or risk closure.
"Many of these are legacy refineries inherited from the Soviet era," says Denis Perevezentsev, a Moscow-based credit officer at ratings firm Moody's.
These outdated plants will also come under pressure after the 2020 introduction of stricter international rules on sulphur content in marine fuels. "If you do not have a sales channel for your fuel oil, it will probably be selling at a discount after 2020, and profitability will be even lower," he says.
Smaller, non-integrated refiners that lack their own oil supply will be hit hard by the changes. "The wellbeing of these plants will depend on what cost they can source their feedstock, which is becoming increasingly expensive," says Perevezentsev, warning that some independents could become "dinosaurs" as a result of the tax overhaul.
In early June, state-owned lender Sberbank foreclosed on Russia's largest independent refinery, the 180,000bl/d Antipinsky plant in western Siberia. The facility's former owner was New Stream Group, a private downstream player that also ran the 120,000bl/d Afipsky and 30,000bl/d Mariysky refineries.
“We do see the tax changes having a negative impact” – Polgar, FGE
But, according to Dora Polgar, a senior analyst at London-based energy consultancy FGE, the problems at the Antipinsky refinery were largely case-specific. "We do see the tax changes having a negative impact, but it is really the simple capacity that is hit hard, as they have already been operating at fairly low margin levels because of its high fuel oil output," says Polgar.
The Antipinsky refinery is, though, fairly modern, equipped with delayed coking, vacuum distillation, fuel hydrotreatment and catalytic reforming units, among other advanced processing facilities. But New Stream took on significant debt prior to the 2014 oil price crash to fund its refinery modernisation programme. It has been struggling to service this debt ever since the market entered its downturn.
Unlike independents, Russia's larger integrated players should be able to bear the brunt of potential downstream losses thanks to their upstream earnings, which typically account for 80-90pc of their total EBITDA.
The Russian oil and gas industry has increasingly consolidated over the past decade, and Perevezentsev expects the tax manoeuvre to accentuate this trend. "Consolidation of the sector through restructuring and M&A will be the way forward," he says.
But Mitch Jennings, an analyst at Moscow-based Sova Capital, believes Russia's leading oil companies will have limited appetite to expand their refining activities, given the substantial investments required to upgrade existing plants. "There are only so many really good refineries in Russia, and most of them are already held by the majors," he says. "A lot of these companies are looking to go into petrochemicals, and that seems a more likely step than expanding in refining."
Potentially reinforcing that view, the Antipinsky refinery looks set to be taken over by a new market entrant, rather than one of Russia's existing major oil firms. In early June, a consortium called Socar Energoresurs, consisting of Sberbank and a group of investors, took an 80pc stake in Antipinsky, receiving control over the plant and oil fields in the Orenburg Region that also belonged to the refinery's previous owner.
As the name suggests, Azerbaijan's state oil company Socar is tied to the new buyer, initially providing institutional expertise and operational management, but is also considering joining the project as an investor. If it assumed operatorship, Socar would become the only foreign operator of a Russian refinery. "If this deal goes ahead it would be a first," Polgar says. "Russia is very protective of its energy projects and the sector is not very open to non-Russian investors."
Socar has been seeking an opening into Russia's oil industry for some time as part of a broader push to diversify its revenue base away from domestic oil production. It does not currently have any large assets in the country, with its operations confined to a small-scale trading business. It is therefore unclear how Socar will integrate the plant in Tyumen with the rest of its business, given its location far from any port or pipeline that could deliver crude from Azerbaijan.
“Many of these are legacy refineries inherited from the Soviet era” – Perevezentsey, Moody’s
New Stream's Afipsky refinery, which also owed money to Sberbank, has been transferred to Safmar Group, an investment holding belonging to Russian businessman Mikhail Gutseriev, according to Russian company registry data. Safmar also controls the 120,000bl/d Orsky oil refinery in Orenburg, together with various oil and gas fields across Russia.
Fuel price pressure
By squeezing refining margins, the tax manoeuvre could also put additional pressure on domestic fuel prices. Russian motor fuel prices have risen in recent years as a result of bullish conditions on international markets, despite successive government attempts to stem this trend. The pump price of Russia's popular AI-95 gasoline grade has climbed by almost 14pc in the past two years, selling at RUB45.14 ($0.71) per litre in May, according to statistics published by Rosstat.
Fuel prices are politically sensitive in Russia. Keen to learn lessons from a short-lived fuel crisis that sparked public dissent in 2011, Moscow has sought to keep motoring costs low to avoid adding to the financial hardship of its citizens. The recent price growth has come at a time when the Kremlin's popularity is already waning, the result of stagnating living standards and divisive austerity measures such as the raising of the national pension age.
In an attempt to provide some respite for refiners and stem fuel price rises, the government introduced a so-called negative excise duty at refineries that primarily cater to the domestic market. Authorities also plan to finalise by 1 July a floating excise tax that will partially compensate refineries when export netbacks are higher than fixed domestic fuel price benchmarks. In turn, when export netbacks are lower than these benchmarks, companies must make extra payments to the budget.
This mechanism has drawn criticism from the industry, which argues that the reference benchmarks are too high and inflexible. Problems emerged early this year, when both export netbacks and non-fixed domestic prices slumped, but, because the benchmarks remained high, companies still had to make budget contributions.
There is scepticism that this subsidy can be made to work effectively, given the number of variables at play. "They are not going to find this optimum balance they think they're going to find, because market conditions—whether it be the rouble, the oil price, the price of products or anything else—keep changing," says Jennings.