Fitch Assigns Gazprom's LPNs Final 'BBB' Rating
February 7, 2013 Fitch Ratings
Fitch Ratings-London/Moscow-07 February 2013: Fitch Ratings has assigned Gaz Capital S.A.'s (Gaz Capital) loan participation notes (LPNs) a final senior unsecured 'BBB' rating. The USD800m 3.85% notes due 2020 are the 28th series and the USD900m 4.95% notes due 2028 are the 29th series issued under Gaz Capital's USD30bn debt issuance programme rated 'BBB' by Fitch.
The LPNs are issued on a limited recourse basis for the sole purpose of funding a loan by Gaz Capital to OAO Gazprom ('BBB'/Stable). The proceeds from the loan are expected to be used by Gazprom for general corporate purposes. The noteholders will rely solely on Gazprom's credit and financial standing for the payment of obligations under the notes. Gaz Capital is a special purpose financing vehicle of Gazprom, but is not directly or indirectly a subsidiary.
Strong Operating Profile
Gazprom's ratings reflect its strong operating profile. The company compares favourably with international oil and gas majors and Russian peers based on its position as the leading gas producer in the world, accounting for 16% of the world's gas production and 27% of the European gas market in 2011. Its operations also benefit from low-cost production, high reserves life and a solid reserves replacement rate. Fitch believes that further geographical diversification through gas supplies to China and LNG sales would enhance the group's already solid business profile. According to the Gas Export Law, Gazprom is granted the exclusive right to export natural gas produced in Russia.
Long-Term Price Arrangement In Europe
Fitch expects that Gazprom will continue to benefit from European gas export sales under long-term contracts with prices largely linked to oil products prices at least in the medium term. While Fitch anticipates the pressure on pricing terms under Gazprom's long-term European contracts to continue in the short to medium term, due to the challenging economic environment, the agency believes that Gazprom's financial policy and production profile have sufficient flexibility to accommodate some potential concessions without jeopardising the company's credit metrics. In Fitch's view, these contracts provide the necessary balance between the gas projects' large capital requirements and customers' need for stable and secure gas supplies. In addition, they become even more important in gas markets with limited liquidity and depth and concentrated structure of supplies.
The agency notes that Gazprom continues to experience soft demand for gas in Western Europe, one of its principal markets, where its gas sales declined by 7 % in 2012 to 140 billion cubic meters (bcm) from 150 bcm in 2011. Fitch expects that gas demand in Europe will continue to be weak in 2013 due to an expected decline in eurozone GDP in 2013 by 0.1% but may start increasing in 2014 boosted by eurozone GDP growth of 1.2% in 2014.
Domestic Price Liberalisation Eroded By Higher Taxation
Fitch anticipates that the positive impact of the domestic gas market liberalisation in Russia on Gazprom's financials is likely to be largely eroded by the introduction of more punitive taxation for the Russian gas industry. The agency expects the annual domestic gas price indexation at 15% to continue over 2013 - 2014 with a starting point shifted to 1 July 2012 from the beginning of 2012. At the same time, the mineral extraction tax rate was increased by 61% yoy in 2011, by 115% yoy in 2012 and is expected to rise by 14% in 2013. Fitch forecasts a gradual decline of Gazprom's sales volumes on the domestic market due to the improvement of the Russian economy's energy efficiency and rising competition from independent gas producers.
In addition, Fitch expects Gazprom's financial profile to be underpinned by the group's gradual shift to market-based pricing for its FSU gas sales. This should support the company's cash flow and EBITDA generation in the medium term.
Strong Credit Profile To Be Maintained
Gazprom's ratings are also supported by its strong credit metrics demonstrated by positive free cash flow (FCF) generation historically, relatively low leverage ratios and solid coverage metrics compared to its Russian and international oil and gas peers. Fitch expects the group's funds from operations (FFO) adjusted leverage to fluctuate within a tight range of 1.2x - 1.3x over 2012 - 2015 (1.2x in 2011). At the same time, Fitch expects net adjusted leverage ratios to remain below or on the edge of 1x over 2012 - 15.
Large Capex To Remain
The group plans to invest around USD31bn-USD35bn annually over 2012 - 2015.The annual capex for the gas division is earmarked at RUB700bn - RUB900bn over 2012 - 2030 with almost half dedicated to gas transportation projects. Fitch believes that the execution and cost overrun risks inherent in Gazprom's ambitious investment programme are mitigated by a high degree of capex flexibility as the company can delay its expansion projects in response to market conditions and aims at maintaining at least a neutral FCF position.
According to Fitch's Parent and Subsidiary Rating Linkage, Fitch rates Gazprom on a standalone basis, as the agency believes that most elements of state influence (both positive and negative) are already built into the business profile, and therefore form an integral part of the ratings. According to the Gas Supply Law, at least 50% plus 1 ordinary share of the company that owns Russia's Unified Gas Supply System (i.e., Gazprom) must be owned by the state.
RATING SENSITIVITY ANALYSIS
--Ratings are constrained by the sovereign: Gazprom's Long-term foreign currency IDR and the Stable Outlook are constrained by the Russian sovereign ratings ('BBB'/Stable). A Russia sovereign rating upgrade could be positive for Gazprom's ratings.
--Improved sales diversification: Maintenance or further improvement of the financial profile and/or diversification of the business profile (e.g. gas sales to China and/or LNG sales) could be positive for Gazprom's ratings.
--Material deterioration of the credit metrics: Material deterioration of credit metrics on a sustained basis (e.g. FFO adjusted leverage well above 2x) due, for example, to the implementation of the aggressive capex programme, sizable acquisitions and/or shift of all long-term export contracts to spot prices coinciding with low price levels on the spot markets.
LIQUIDITY AND DEBT STRUCTURE
--Adequate Liquidity: Gazprom's liquidity is adequate for the current ratings. At 30 September 2012, it had cash and cash equivalents of RUB471bn which was adequate to cover RUB386bn of short-term debt.
--Comfortable Maturity Profile: Gazprom's debt maturity profile is not onerous. At end-11 most borrowings were due in 2014 -2016. Fitch expects the company to continue to enjoy access to international debt capital markets to further term out these maturities.
Country of riskRussia
Redemption (put/call option)
М/S&P/F— / — / —
Company — Gazprom
Full nameGazprom PJSC
IndustryOil and gas