Fitch Ratings (Fitch) recently published a peer comparison of the region’s oil & gas (O&G) companies and its authors, Ying Wang, managing director, Asia-Pacific Corporates and Muralidharan Ramakrishnan, director, Asia-Pacific Corporates reveal some interesting observations. Since the majority of the large O&G companies rated by Fitch in Asia are state-linked, their ratings are influenced positively or negatively by the links with, and the credit quality of their sovereign parents.
In Fitch’s analysis of standalone ratings which reflect the credit profile of the entity without sponsor support, three large state-linked integrated O&G companies are assessed to have standalone credit profiles (SCP) higher than the rating of their respective sovereign owners, as a result of their strong operational and financial profiles.
Q. What are the key differentiating factors in an O&G company’s SCP?
Scale, diversification, level of integration and financial profile are the main differentiating factors for SCP of Asia-Pacific O&G companies. Most companies with strong SCPs are diversified with robust vertical integration, as well as geographical diversification. Scale is a key differentiating factor for integrated companies such as CNPC, PetroChina, and PETRONAS, all of which have significant reserves and production.
Fitch considers an entity's reserve base as its most important asset and one which will ultimately drive other operating and financial factors. Proved reserves (1P), together with the ability to efficiently extract hydrocarbons are strong indicators of future production potential, and therefore of future revenue and cash flow.
Upstream companies operate in a high-risk environment, dealing with uncertainties relating to the discovery of commercially viable reserves, and often there are long time-lags between licence acquisition and ultimate production. In assessing the credit quality of O&G producers, Fitch also takes into consideration other reserve-related indicators, such as reserve life, and the proportion of developed reserves.
CNPC, Petrochina, and PETRONAS are assessed at aa, owing to their respective substantial reserve bases. CNPC and PETRONAS do not disclose proved reserve size; but in CNPC’s case, Fitch estimates the proved reserve size based on that of PetroChina, which accounts for the bulk of CNPC’s total reserves. We also estimate PETRONAS’s 1P reserve size from Malaysia’s total reserves, as the company currently holds ownership of all of Malaysia’s O&G assets.
O&G production dynamics are an essential indicator of a company’s scale and operating performance.
In our assessment of production size, we categorise upstream companies by scale, with the ‘majors’ capable of operating larger projects and enjoying economies of scale which, other things being equal, may result in lower costs per barrel. Higher production may also point to greater diversification and expertise. Companies with a higher level of production also tend to have better access to capital markets.
CNPC and PetroChina stand out with substantial daily production levels; CNPC’s scale is one of the largest among Fitch-rated energy companies globally. PETRONAS and CNOOC are also large producers, with production of between 1-2 million barrels of oil equivalent per day.
Q. Which key financial factors do you consider when accessing an O&G company’s ratings?
A company’s financial profile, its capital structure and financial flexibility, are all important elements of its ratings and SCP. A company’s financial structure, measured mainly by its leverage, carries significant weight in the overall assessment of creditworthiness for O&G companies.
For companies such as CNPC, PetroChina and PETRONAS, their business profile – scale and integration – are chief factors among their high credit assessments, in combination with their strong balance sheets. PETRONAS stands out with comparatively low leverage, having maintained a net cash position since 2006.
Q. What approach do you take to financial forecasts?
Fitch adopts a through-the-cycle approach in rating companies in the O&G sector. Our financial forecasts are based on a set of short-to-medium term price assumptions. Fitch’s price assumptions are not made to predict the actual O&G prices, but to provide a range of foreseeable operational and financial profiles commensurate with a rating level that is expected to persist through price cycles in the sector.
Financial flexibility measures an issuer’s ability to meet its debt-servicing obligations and to manage periods of volatility without eroding credit quality. The more conservatively capitalised an issuer, the greater its financial flexibility. In general, a commitment to maintaining debt within a certain range allows an issuer to cope better with the effects of unexpected events.
In light of its strong liquidity and coverage ratios, as well as its prudent financial policies PETRONAS is assessed at aa-. Although CNPC and PetroChina are assessed as a-category, their overall SCP assessment of AA- combines this strong financial profile with their very strong business profile which is assessed at the aa level.
Q. How do sovereign linkages affect APAC O&G companies’ ratings under Fitch’s government-related entities (GREs) criteria?
A larger number of APAC O&G producers are government-related entities (GRE). The ratings of state-owned O&G companies are based on Fitch’s GRE criteria which incorporate links with the government, and each individual government’s incentive for support, as well as their respective SCP. In the case of CNPC, Petrochina and PETRONAS, although their SCP’s are currently assessed at a higher level than their respective sovereign owners – China (A+/Stable) and Malaysia (A-/Stable), their ultimate ratings are capped at the sovereigns’ level given the influence sovereign-parents can exert on the operational and financial profiles of these entities. On the other hand, KNOC’s ratings are equalised with Korea’s sovereign rating at AA- despite a weak SCP of b+.
Q. How do APAC O&G companies compare in mitigating cyclicality in the industry?
Diversification is an important factor in driving the standalone profiles of CNPC, PetroChina, PETRONAS and PTT, as reflected in their aa rating for the diversification sub-factor. O&G companies benefit from a vertically integrated business portfolio, as cash flow from mid-to-downstream operations mitigates the volatility of the upstream operations.
CNPC (and PetroChina, which is the main operating entity in the CNPC Group) benefit from a vertically integrated business profile, with large petroleum marketing, petrochemical and gas mid-stream operations, in addition to upstream operations. Its crude output accounted for around 85% of its mid-and- downstream processing requirements in 2017.
PETRONAS’s operations benefit from a reasonable degree of vertical integration, and are also diversified geographically with over 30% of revenue generated from international operations. PTT is also highly integrated, with petrochemical and refining operations, and it’s also the sole operator in mid-and-downstream Thai gas operations.
Among companies assessed at the bbb level, CNOOC is a pure upstream operator with offshore operations in China, as well as overseas assets. Woodside’s upstream operations are concentrated in Australia but with a significant portion of revenue contracted with some price protection, making it less vulnerable to price volatility.
OIL, Saka, Korea National Oil Corporation and Medco Energi are assessed at bb for their diversification sub-factor, as they are all upstream companies with few projects, and are relatively more exposed to factors like price volatility, cost overruns, production delays or disruptions.
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