Petrom Group, between optimized operations and deteriorating macroeconomic environment

The financial results reported by the oil and gas company Petrom Group in Q3/10 results burdened by one-off charge in Kazakhstan as while clean CCS EBIT was only 7 percent lower compared to Q3/09, Q3/10 EBIT fell 62 percent due to an impairment in Kazakhstan. However, EBIT recorded in 9m/10 is 41 percent higher compared to the same period of 2009. Also, investments step up: Q3/10 CAPEX 50 percent higher compared to Q3/09, while 9m/10 level is up by 9 percent compared to the same period of 2009. Company representatives expect market conditions to remain challenging throughout the last quarter of 2010, marked by a volatile environment; we will sharpen our focus on cost control and efficiency measures.”Throughout the third quarter of 2010, the favorable crude price environment and the continuous optimization of refineries’ operations supported our underlying performance. Furthermore, the ongoing improvement in our cost base helped us mitigate the effects of further deterioration of domestic demand, in both the fuels and gas market. Our bottom line was adversely affected in Q3/10 by the impairment of Kazakh assets and FX losses due to USD loans given to our Kazakh subsidiaries. In the past months, in line with our strategic directions, we made visible progress on the power project at Brazi and entered partnerships with internationally reputed companies in order to maximize production on selected mature fields, with cumulative production enhancement of 50 percent expected from the respective fields in the next five years,” said Mariana Gheorghe, CEO of OMV Petrom. She added: “In the remaining part of 2010, we will step up our investment efforts with a particular focus on E&P drilling and well workovers in order to largely offset natural decline production whilst keeping our focus on cost management and financial discipline to ensure sound results despite weakening market conditions.” In Q3/10, despite the increased oil price, results were negatively impacted by the impairment in Kazakhstan and by significant FX losses coming from Petrom’s loans in USD given to Kazakh activities. The Urals crude price, the reference oil price for Romania, was 11 percent higher in Q3/10 compared to the level recorded in Q3/09. The Group reported EBIT of RON 336 mn was 62 percent lower than in Q3/09 driven by theimpairment of Kazakh assets based on the outcome of the technical assessment for the fields and the reestablishment of an export customs duty in Kazakhstan, and also by higher depreciation, following significant investments made in the last 12 months. The net financial result of RON (455) mn was substantially below Q3/09 level due to the significant appreciation of RON against USD and higher interest costs. Net income after minorities was RON (100) mn. Clean CCS EBIT decreased by 7 percent to RON 760 mn. The Clean CCS EBIT is stated after eliminating net special expenses of RON 452 mn mainly related to the impairment in Kazakhstan and inventory holding gains of RON 28 mn. Clean CCS net income afterminorities was RON 226 mn. In Exploration and Production (E&P), clean EBIT was 2 percent higher compared to Q3/09, mainly due to increased oil and NGL revenues and the improved cost base. At 183,000 boe/day, the Group’s oil and gas production was 1 percent lower compared to Q3/09 due to lower production in Romania.In Refining and Marketing (R&M), clean CCS EBIT improved significantly compared to Q3/09, reflecting the flexible refinery operations and cost control efficiency. Furthermore, the result was supported by an adjustment in the internal transfer price regime between E&P and R&M, which was made at the beginning of 2010 in order to properly reflect the high integration value of Petrom’s refineries.In Gas and Power (G&P), clean EBIT was lower compared to Q3/09, reflecting the difficult economic environment and the bad debt provisions booked. Consolidated gas sales volumes in Q3/10 were 26 percent lower compared to Q3/09 due to the lower demand. January – September 2010 (9m/10) In 9m/10, results benefited from the favorable crude price environment and cost management measures.The Urals crude price was 34 percent higher compared to 9m/09. The Group reported EBIT of RON 2,012 mn was significantly above the level of 9m/09 of RON 1,426 mn. The net financial result was RON (308) mn, 45 percent below the 9m/09 level, due to higher interest costs that were partially compensated by FX gains driven by the USD appreciation against RON. Net income after minorities improved by 44 percent versus the previous year, amounting to RON 1,421 mn. Clean CCS EBIT increased to RON 2,354 mn. The clean CCS EBIT is stated after eliminating net special expenses of RON 440 mn and inventory holding gains of RON 98 mn. Clean CCS net income after minorities was RON 1,678 mn.In E&P, clean EBIT was higher by 48 percent compared to 9m/09, due to the increase in crude oil prices. At 183,000 boe/day, the Group’s oil and gas production was 2 percent lower compared to 9m/09 due to lower production in Romania.In R&M, clean CCS EBIT improved significantly compared to 9m/09 driven by the flexible operations and optimization of supply in Refining. The higher gasoline and middle distillates cracks were fully offset by the higher cost for own crude consumption driven by the significant increase in crude oil prices. Marketing was faced with lower margins and volumes, especially in the commercial sector,negatively affected by the weak economic environment. In G&P, clean EBIT was significantly lower compared to 9m/09, when the result benefited from higher margins on import gas quantities extracted from storage. Provisions made for outstanding receivables further burdened the result. Consolidated gas sales volumes were 4 percent lower compared to 9m/09 due to the lower demand.
Outlook 2010Globally, we expect the oil price to remain volatile in 2010, trading broadly within a range of USD 70-85/bbl. Given the continuing volatile economic environment, we expect to see a slightly weakening EUR against the RON and USD compared to last year’s average levels. The market for refined products is forecast to remain challenging in the remaining part of 2010, after the recovery witnessed in the firsthalf of the year. Marketing volumes and margins are expected to remain under pressure until the broader economy shows clearer signs of improvement. Romanian GDP will continue to contract as consumption, the main engine of growth over recent years, is expected to remain weak throughout 2010. The rise in VAT and the ongoing reduction in consumer purchasing power is likely to restrict further private consumption. Weak credit and labor markets will continue to act as a drag on economic recovery.End-year inflation is now expected to be around 8 percent, following the VAT increase. Political support for implementing economic reforms and ensuring public sector austerity in line with IMF recommendations are critical for achieving macroeconomic stability. To help protect the company’s cash flow in 2010, Petrom entered into crude oil hedges in Q2/09 for a volume of 38,000 bbl/d, securing a price floor of USD 54/bbl via the sale of a price cap of USD 75/bbl (zerocost structure). We will step up our investment efforts with a particular focus on E&P drilling and well workovers. However, due to the normal project cycle, a certain part of our sizeable investment program planned for OMV Petrom S.A. in 2010 is now expected to occur during the next fiscal year. Given the levels of capital expenditure recorded in the first three quarters of 2010, we reduce our CAPEX expectation for 2010 to EUR 1.1 – 1.2 bn. Furthermore, our sound financial position has reduced the need for a capital increase and allows us to pursue the alignment with State’s initiative to sell part of its stake in Petrom (9.8 percent). Based on the current information, it is likely that we will request our shareholders to prolong the delegation of the competences to theExecutive Board of the Company beyond April 29,2011.In E&P, the investment efforts will intensify in the last quarter with a focus on drilling of development and production wells, well workovers, production facilities and infrastructure. Our efforts to minimize the natural decline of production will concentrate on reservoirmanagement initiatives, infill drilling and increasing the workovers program compared to 2009. Exploration activity will continue to focus on larger, high impact prospects located in deeper, more frontier areas. The 3D seismic survey in the Moreni area is ongoing. The 3D seismic data acquired in the Neptun deepwater offshore area, explored in a joint venture with ExxonMobil, is currently evaluated to identify prospects. As regards projects, the focus is on close-out of the gas de-bottlenecking project in Hurezani, further progress of our 7 ongoing integrated field re-development projects and the successful implementation of organizationalstreamlining. As a result of a recent technical assessment of the Kazakh activities, the production forecast for Komsomolskoe was revised downwards to reflect the actual performance of the reservoir as well as its facilities. In the remainder of 2010, our efforts in Kazakhstan will focus on stabilizing production during the winter season at Q3 levels. The 3D seismic acquisition in Kultuk oilfield is progressing well and will be finalized in Q4/10. In Refining, we will pursue flexible refinery operations, optimizing crude imports. Consequently, depending on the prevailing margin and supply conditions, we will continue to operate the Arpechim refinery on an “as needed” basis during 2010 with no plans to restart the refinery this year. As a result, overall capacity utilization is expected to be below 2009 levels. In the remaining months of 2010, we willPETROM Q3/10 continue the modernization at Petrobrazi andprogress with the revamp of the crude distillation unit. The Brazi terminal, whose construction was finalized in Q3/10, will become operational in Q4/10, with a capacity of approximately 8,000 cbm. In addition, we continue the third part of our Terminal Modernization Program, the construction of the Isalnita storage facility (approximately 11,000 cbm capacity). In Marketing, the core aspects of this year’s activities are the operations’ optimization and efficiency increase, with a main focus on the consolidation process of the Marketing activities of Petrom Group in Romania. The significant decline in fuels demand seen at the end of 2009 intensified further during 2010; the fuels market is expected to continue to be challenging, in line with the development of the Romanian economy. The Power business continues the construction of the Brazi power plant which is scheduled to start operations towards the end of 2011. Moreover, we will focus on the construction of the wind power generation plant acquired in Dobrogea, estimated to be finalized in mid 2011. Through this project, Petrom intends to capitalize on the flexibility of the Brazi gasfired power plant, benefiting from the strengths of both technologies.In the Gas business, the Romanian gas consumption in Q4/10 is expected to be higher than in Q4/09. This trend is already confirmed by the contracted October volumes. The total increase of consumption, however, will finally be determined by the outside temperatures during November/December 2010.Currently, the gas price for domestic producers in Romania stands at around 40 percent of the import gas price. Therefore, the convergence of the domestic and imported gas price will be a priority topic in our discussions with the Romanian authorities. In line with management’s decision to exit non-core segments, Petrom will close Doljchim by the end of 2010. The dismantling and decontamination of theplant will then commence, in compliance with European environmental standards.

D.V.