European Integrated Oils: Q3 2015 results preview

Deutsche Bank Markets Research Europe United Kingdom Oil & Gas Exploration & Production Industry European Integrated Oils Date 22 October 2015 Industry Update Q3 2015 results preview Almost, but not quite .... ________________________________________________________________________________________________________________ Deutsche Bank AG/London Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 124/04/2015. Lucas Herrmann, ACA Research Analyst (+44) 20 754-73636 lucas.herrmann@db.com Tom Robinson Research Analyst (+44) 20 754-52468 thomas.robinson@db.com Top picks Royal Dutch Shell Plc (RDSb.L),GBP1,793.00 Buy BP (BP.L),GBP376.55 Buy BG Group (BG.L),GBP1,087.50 Buy Source: Deutsche Bank 3Q15E Net Income Expectations 3Q15eQ3/Q3%Galp (€m)26 Oct16940%40%BP ($m)27 Oct1126-63%-63%Statoil (NKm)28 Oct16161-48%-48%Total (€m)29 Oct2655-25%-25%Eni (€m)29 Oct149-87%-87%Repsol (€m)12 Nov206-50%-50%Shell ($m)29 Oct2779-52%-52%BG ($m)30 Oct205-73%-73%OMV (€m)05 Nov254-10%-10% Source: Deutsche Bank 3Q15E YoY Net Income Expectations (%) -100.0%-80.0%-60.0%-40.0%-20.0%0.0%20.0%40.0%GalpOMVTotalShellRepsolStatoilBPBGENI Source: Deutsche Bank If this reporting season is set to prove anything it will be that Big Oil does not work at $50/bbl. Faced with a 50% y-o-y fall in the commodity, earnings are expected to make essentially dreadful reading and this despite the benefit for several of an excellent downstream outcome. With earnings paucity arguing that forecasting error is high, investors should anticipate material divergence. Key to the European season, however, will be quantification of internal initiatives to contain opex and the extent to which capital cost deflation is starting to feed through. Positive news here combined with clear signs that the supply side is now creaking argue now is not the time to be overly bearish. Different quarter, same words (well almost) With 3Q/3Q commodity moves showing Brent -50%, HHub -30% and NBP essentially flat we expect Upstream earnings (-86% Y/Y in USD) and cash flow will have remained under intense pressure. Refining margins, improved volumes and NOK depreciation are offsets, but even allowing for this we forecast a 44% Y/Y decline in local currency earnings (51% in USD). Greatest resilience is again likely to be found at those most exposed to European refining, a source of income we suspect the corporates will, with some good justification, look to portray as gaining from structural as well as cyclical improvement. Galp, Total and Repsol are the obvious plays on this theme, albeit leverage has been well telegraphed by recent trading updates, Total highlighting for example an eighty plus % YoY uplift in its key ERMI marker. Look across the Atlantic for news flow that may influence the S/D debate Given the paucity of upstream earnings (can BP and Shell really produce little more than $100m of Upstream net income in a quarter between them?) scope for forecasting error is clearly high. At this stage in the oil price cycle of greater importance than the numbers will, therefore, be the commentary surrounding business and cash cycle rebalancing. With this in mind we expect market focus to remain on both operating cost initiatives and near term capex. Yet, whilst we strongly suspect that 2015 capex run-rates will show spend to be at the low end of guidance, that 2016 capital budgets are only now being established argues that Q3 commentary is unlikely to dramatically alter market debate. As reporting seasons go more relevant to our minds therefore will be commentary from across the Atlantic, where the changed mantra of US E&P to cash conservation from growth suggests strong potential for commodity price support (see our US colleague Josh Silverstein’s 20th October note entitled ‘Upstream Budgets Remain on the Chopping Block’ for detail). Valuation & Risk As confidence builds in the view that a mid-cycle Brent price of c$70/bbl is not unrealistic, free cash and dividend multiples argue that there is further upside. But with near-term trading results, not least the impending quarter but also likely the next, almost certain to emphasize that cash and profit cycles at this time simply do not work, now is not the time to chase the space. Our preferred names remain BP (Buy 450p) the c7% DY for which we believe will come in materially as investors ga