After nationalisation, Repsol recovers while YPF struggles
A little more than six months after the Argentine government nationalised a majority stake in YPF from Spain’s Repsol, it is clear the companies are headed in different directions: Repsol is on the road to recovery while YPF is struggling to follow through on its ambitious strategy
In early November, both companies reported earnings from their first full quarter since the breakup. Repsol exceeded expectations, reporting a third-quarter profit of €760 million ($965.7 million), up 36% from the same period in 2011. State-run YPF disappointed investors, reporting a profit of ARS756 million ($158.4 million) for the third quarter, down 51% on the same period last year.
Argentine president Cristina Fernández de Kirchner nationalised Repsol’s majority stake in YPF in April, taking control over the country’s largest energy company and a huge slice of the multi-billion barrel Vaca Muerta shale oilfield.
In spite of losing most of its Argentine production as a result of the nationalisation, Repsol’s upstream business led the company’s earnings higher. Operating income for the quarter in the upstream segment was up nearly 65% from the previous year, as total oil and gas production rose by nearly 20% to 339,000 barrels of oil equivalent per day (boe/d), more than offsetting lower global oil and gas prices.
Production in Libya rose to 44,000 boe/d, as output continued to recover from the civil conflict that paralysed the country’s oil industry. The company also benefited from the start of production at Phase 1 of its Margarita gas project in Bolivia, one of the company’s most important projects in Latin America.
Full-year production looks to be on pace to grow by about 10% in 2012 and is on target to grow again by 10% in 2013, highlighting the company’s strong portfolio as other companies its size have struggled to deliver production growth.
The company’s liquefied natural gas (LNG) business was also a strong performer during the quarter, with operating income for the quarter up around 75% from the previous year. Repsol saw higher LNG volumes and higher margins as it was able to send fewer cargos to the US, where prices are much lower than in Asia and Europe.
The LNG business, which includes export projects in Peru, Trinidad and Tobago and an import terminal in Canada, will stay in the spotlight over the coming months. Although Repsol’s earnings show the company getting back on track operationally, the YPF nationalisation has forced it to put its LNG business on the block to shore up its finances and maintain its investment-grade credit rating.
A number of companies, including Russia’s Gazprom and Novatek, France’s Total, China’s state-run Sinopec and India’s Gail, are reportedly interested in the assets. Miguel Martinez, Repsol chief financial officer, told analysts on 8 November that he expects the sale to happen by January.
The strong performance of the LNG sector is “helpful background against which to be negotiating sale of LNG assets but this process remains time critical”, says Peter Hutton from RBC Capital Markets. If Repsol is not able to find a buyer for its LNG business, it will have to find another way to cut as much as $4 billion in debt, Hutton added.
“Should Repsol succeed in completing the sale of its LNG business the company will enter 2013 free from the financial overhang created by the YPF expropriation,” Deutsche Bank said in a research note.
While Repsol appears to be emerging from the nationalisation of its Argentine business in strong shape, YPF is struggling under the control of the Argentine government.
“We are not satisfied with the profitability of this quarter. It is not the level of profitability that we have in the plan for the long term, so we do expect to improve that,” Daniel Gonzalez, YPF’s chief financial officer, told analysts on conference call.
Gonzalez blamed the fall in profitability on higher costs, poor performance from the company’s affiliates and a one-off deferred tax payment in the quarter. Exploration costs were up nearly 200% over the same quarter last year as YPF looks to find new sources of production. The Argentine government complained that Repsol was not investing enough in exploration as a justification for the nationalisation.
Earlier this year, YPF announced an ambitious strategic plan to invest nearly $40 billion over the next five years to turn around falling oil and gas production and kick-start development of the Vaca Muerta shale.
Executing that plan, though, will depend on YPF attracting foreign partners with the deep pockets and technical expertise needed to develop the Vaca Muerta shale and convincing international markets to help fund the capital-intensive early stages of exploration and development.
Both prospects look questionable. YPF signed a memorandum of understanding (MoU) to jointly develop its shale assets with US supermajor Chevron in September. The companies, though, have not followed through on a final agreement. And efforts to do so will be complicated by an Argentine court ruling that has frozen Chevron’s assets in the country to enforce an Ecuadorean judgement that the US company owes Amazonian communities $19 billion in environmental damages.
YPF has held talks with a host of other potential investors, but companies have been reluctant to commit to YPF in spite of the huge potential of the Vaca Muerta shale. An international road show and visits by YPF and government officials to China do not seem to have brought the company any closer to securing a foreign partner.
Aside from the uncertainty created by the YPF nationalisation, and the government’s intransigence in negotiating a settlement with Repsol, companies face several obstacles. Low domestic fuel prices that are fixed by the government make projects less attractive, double-digit inflation has pushed costs higher and companies face stiff restrictions on bringing equipment into the country and taking cash out. Erratic policymaking from the Fernández government has added to these challenges.
YPF also faces difficulties raising cash abroad. Gonzalez said that assuming the company finds a foreign partner it will still need to raise an addition $1 billion in debt from foreign markets in 2013, and will likely need much more than that over the coming years. International creditors, though, remain sceptical of YPF’s ability to follow through on its strategy.
Moreover, the company’s creditworthiness is now inextricably tied to the Argentine government’s, an unenviable position to be in. Argentina has been all but locked out of international credit markets since its 2002 debt default. A recent US court decision could make things worse, for Argentina and by extension YPF. The court ruling, which is certain to be appealed in a higher court, said that Argentina must pay out on bonds held by holdouts from a 2005 debt-swap deal, which the country hoped would bring an end to its debt crisis. Argentina has vowed never to pay the holdouts, which it calls “vultures”, but if the ruling is confirmed it could face another sovereign debt default. Meanwhile, a cloud continues to hang over Argentina and YPF.