Gazprom and Rosneft unite: Yugansk to stand alone

For many, Rosneft alone is nowhere near as attractive without Yugansk —
but, given the mountain of debt Rosneft has taken on to purchase Yugansk and the
litigation risk from Group Menatep, we believe Gazprom will be better off without it.
The key question is how Rosneft’s net debt of about USD 7.6 bn associated with the
acquisition of Yuganskneftegaz will be treated. While loans from Russian banks
(about USD 1.5 bn) could be consolidated into Gazprom’s balance sheet, USD 6 bn
prepayment from China for oil deliveries should be pledged against Yugansneftegaz
crude volumes after the unit is spun off. In any case, Rosneft debt allocation needs to
ensure that total valuation of Rosneft equals 10.7% of Gazprom shares, currently
worth USD 7.6 bn at the local prices.
Fundamentally, we do not see Rosneft as adding much value to Gazprom’s portfolio.
With the latter’s limited cash flow and deteriorating fundamentals, Rosneft represents
just another burden in the gas behemoth’s already stretched capital spending, at least
in the medium-term.
But whatever the negatives, the deal will finally bring down the much-maligned ring
fence around Gazprom shares. We hope the transition is swift, removing all
restrictions of foreign ownership in one swoop. Whether the foreign ownership quota
is removed altogether is crucial for an estimate for the effect of Gazprom’s
re-weighting in global equity indices. According to our estimates, Gazprom’s weight
in MSCI EMF could rise to 3.3% from current 0.3%, making it a must-have for many
classes of investors.
Meanwhile, the local-to-ADR discount in Gazprom shares is now at an all-time low of
17% — not that breathtaking considering the daunting transaction costs for foreigners
buying through grey schemes. Considering Gazprom’s worrying financial discipline
and a feeble prospects for gas reform, we believe that the gas giant’s ADSs have
already fully priced in the successful removal of the ring fence. For this reason we are
downgrading Gazprom ADSs to Neutral with a target price of USD 38, while the
local shares obviously still offer attractive upside — for those who can buy them.