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Russia in strong position for price war

Oil producers in the country have relatively low upstream costs and greenfield projects ready to roll

Russian producers are ready for a war of attrition with Saudi Aramco, but some will handle the price collapse better than others. And having split with Opec+ in early March, Moscow is unlikely to change course anytime soon.

Russia’s upstream costs average $4.70/bl oe, according to Moscow-based ratings agency ACRA. This is down from $5.60/bl oe last year, thanks primarily to depreciation of the rouble. At $25/bl, extraction and export taxes add a further $9/bl. But as tax breaks apply to many Russian fields, producers will continue to generate positive cash flow even if oil slides to $10/bl.

Russia’s leading state firms Rosneft and Gazprom Neft are in a stronger position to weather the downturn, boasting upstream costs of only $6.10/bl and $3.90/bl respectively. They are also in a better spot to capitalise on Opec+’s demise, having held back a raft of greenfield projects over the past three years with which they can now push ahead. This helps explains why the pair have long opposed Russia’s association with the suppliers’ alliance.

In contrast Lukoil, Russia’s biggest private producer, has upstream costs of $6.60/bl and has been grappling with output decline for years. Producer peers Surgutneftegaz and Tatneft have costs of $4.20/bl and $6.70/bl respectively.

“We don’t expect significant capex cuts for Eastern Siberia and the Far East projects” - Tanurcov, ACRA

No capex cuts so far

Russian oil firms have yet to announce capex cuts, bucking the global trend, but they will be inevitable if low prices persist, ACRA believes. None of the top producers were willing to comment on capex reductions when approached by Petroleum Economist.

Moscow shows no sign of backing down in its standoff with Riyadh. Russia’s energy ministry insists an extra 300,000bl/d of supply will be brought onstream in the coming months—a plan that consultancy Rystad Energy says is achievable. Russian liquids output averaged 11.3mn bl/d in February, energy ministry data shows.

Like global benchmark crudes, Russia’s flagship Urals blend has plunged to a 20-year low. The typical discount of Urals to Brent has widened to $7-9/bl, ACRA estimates. This reflects the collapse of oil demand in Europe, the destination for most Urals crude sales. Saudi Arabia has also offered the heaviest discounts to its customers in Europe.

“New capex makes no sense with current prices for most projects aimed at exporting to Europe,” ACRA’s director Vasilii Tanurcov tells Petroleum Economist.

Espo premium

Producers are unlikely to take the knife to spending in Eastern Siberia, though, where Russia’s sweeter Espo blend is produced for sale to China and other Asia-Pacific markets. Bank VTB Capital estimates the Espo grade is now selling at a $11/bl premium to Urals crude. While this incentivises Asian buyers to acquire record volumes of Urals, despite much higher transport costs, it also means Russian producers are motivated to export as much Espo as they can.

“Espo is traded with a huge premium to Urals, while taxes are calculated on the basis of Urals,” Tanurcov says. “This makes exporting Espo now unprecedently profitable—so we do not expect significant capex cuts for Eastern Siberia and the Far East projects.”

Conveniently, Eastern Siberia is where many of Russia’s largest pending greenfield projects are located. These projects, controlled mostly by Rosneft, have until now been held back by Opec+ supply quotas.

300,000bl/d – planned Russian output increase

Rosneft is already moving ahead with work at one of the region’s biggest oilfields, Srednebotuobinskoye, alongside its partner BP. State agency Glavgosexpertiza approved plans on 20 March for five new wells clusters at the field. Its output averaged 84,000bl/d in the fourth quarter, Rosneft data shows, but could exceed 100,000bl/d.

At the same time, Espo’s top buyer, China, is, at least on paper, emerging from its coronavirus lockdown, which could trigger a rebound in its oil demand. As happened after the 2014 oil price crash, Beijing is likely to exploit low oil prices to boost its stockpiles. China’s strategic and commercial petroleum reserves could rise ny 28pc in 2020, to 1.15bn bl, consultancy Wood Mackenzie estimates, equal to 83 days of demand.

All this indicates that, while Saudi Arabia initiated the supply war in Europe by cutting prices, its real tussle with Russia will play out in the Asia-Pacific arena. The pair will continue to jostle for the position as China’s top oil supplier.

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