Beijing Enterprises shares plunge after buying minority stake in Russian oil and gas producer

BJE’s maiden foray into upstream production. Official signing witnessed by Premier Li Keqiang and Russian Prime Minister Dmitry Medvedev

PUBLISHED : Wednesday, 09 November, 2016, 1:56pm
UPDATED : Wednesday, 09 November, 2016, 10:38pm

Shares in Beijing Enterprises (BJE), which has exclusive right to distribute natural gas in the capital city, plunged as much as 8.6 per cent after it announced it plans to buy a minority stake in a Russian oil and gas producer for US$1.1 billion.

The deal, subject to customary regulatory approvals, is BJE’s maiden foray into upstream oil and gas production and its signing on Monday was witnessed by Premier Li Keqiang and Russian Prime Minister Dmitry Medvedev.

It came just over four months after parent Beijing Enterprises Group inked a broad agreement on potential cooperation in the oil and gas sector, in the presence of President Xi Jinping and Russian President Vladimir Putin.

“The target company possesses significant gas reserves in East Siberia, which both parties are willing to explore in good faith a possibility to supply to China,” BJE, the municipal government’s Hong Kong-listed flagship conglomerate, said in a filing to the stock exchange on Wednesday.

“The acquisition represents strategic importance for the group through helping improve the security

of gas supply to Beijing city as well as enhancing the group’s industry position in the gas

distribution sector,” it added.

BJE shares traded 7.3 per cent lower at HK$35.1 at noon when the morning trading session closed. The Hang Seng Index fell 2.8 per cent.

UOB Kay Hian analyst Shi Yan said investors’ negative reaction to the BJE’s acquisition is likely related to their perception that the deal was driven more by political than business profit considerations.

“The transaction should increase the risk profile of BJE, given the higher risk associated with upstream investments,” said UBS’ analysts in a note.

Daiwa Capital Markets analyst Dennis Ip said in a note that together with the 1.45 billion euros purchase of EEW – Germany’s largest municipal waste-to-electricity project operator – BJE has spent the equivalent of more than 40 per cent of its market capitalisation on overseas acquisitions this year.

“We believe this deal is partly driven by diplomatic relationship between China and Russia,” he added.

BJE has also agreed to buy 20 per cent of Verkhnechonskneftegaz, a subsidiary of Russia’s biggest oil producer Rosneft.

Verkhnechonsk holds a license to develop the Verkhnechonsk oil and gas field, one of the largest in Eastern Siberia, BJE said.

It has “C1+C2” reserves of 173 million tonnes of oil and gas condensate, and 115 billion cubic metres of natural gas. Current oil output is running at 8.5 million tonnes a year.

Its net profit dropped 12 per cent to 46.77 billion roubles (US$735.3 million) last year from 2014.

The acquisition price represents 7.5 times last year’s earnings, which Shi and the UBS analysts said is reasonable.

Rosneft is trading at a multiple of 13.5, while Lukoil, the nation’s second largest producer, is fetching 7.9 time, compared to 10.6 times of Gazpromneft, and 8.4 times of Tatneft.

UBS’ analysts estimate the 20 per cent stake to be bought by BJE to be worth US$942 million to US$1.17 billion, assuming a per barrel of oil equivalent (BOE) reserves value of US$2 to US$5 and only 20 per cent of the “C1+C2” contingent reserves is economically recoverable. They estimated a pre-tax profit of US$15 a barrel on existing oil production.

Rosneft said the deal will give BJE a share of one of East Siberia’s largest producing fields with developed infrastructure and access to the Eastern Siberia-Pacific Ocean oil pipeline, while Rosneft may obtain access to the Chinese gas market “by means of swap supplies of gas.”

It may be ten years or more before gas could be supplied from the Siberia field to China, given it takes a long time to negotiate supply terms and develop the field to boost output, Shi said.

Nomura analyst Gordon Kwan said the project risk could be mitigated by guaranteed supply contracts with China for both oil and gas from BJE and China’s point of view.

BJE chief financial officer Jimmy Tam Chun-fai Queries has not immediately responded to emailed queries on the potential time frame for the Siberia field to supply China and the investment required to bring output to a sufficient level to supply China.

China currently has excess gas supply, after the nation’s three state oil and gas giants signed a string of long-term contracts in recent years that committed them to import a vast amount of gas at high prices. High gas prices amid sharply lower petroleum prices have dampened the growth in demand for the cleaner-burning fossil fuel in recent years.