PJSC LUKOIL
Q2 2020 Earnings Call Transcript

Published: 28 Aug 2020

[Operator:]

Good afternoon, ladies and gentlemen, and welcome to the LUKOIL's Second Quarter First Half 2020 Results Conference Call. My name is Courtney and I'll be your coordinator for today's event. For the duration of the call, your lines will be on listen-only. However, at the end of the presentation, you will have the opportunity to ask questions. [Operator Instructions] And I will now hand you over to Alexander Palivoda, Private Investor Relations to begin today's call. Thank you.

[Alexander Palivoda:]

Thank you. Good afternoon, ladies and gentlemen. Thank you for joining us today for this conference call on LUKOIL's results for the second quarter and first half of 2020. On today's call we have Mr. Alexander Matytsyn, CFO; Mr. Pavel Zhdanov, Vice President for Finance; as well as our colleagues from the accounting team. Before we move on to the presentation, I would like to draw your attention to the fact that some of the comments during this call constitute forward-looking statements involving risks, uncertainties and other factors that may cause our actual results to be materially different from what is expressed or implied by these forward-looking statements. More detailed information is presented on the slide. Now, I'd like to hand over to Mr. Alexander Matytsyn.

[Alexander Matytsyn:]

Thank you, Alexander. Good afternoon, ladies and gentlemen. The second quarter turned out to be one of the most challenging in the history of the oil and gas industry. The coronavirus pandemic led to an unprecedented slump in demand and hydrocarbon prices as well as to imbalance of key macro parameters. We had to significantly cut production following the OPEC+ agreement and weaker demand for gas from China and optimize the refining throughputs due to tighter crack spreads and a sharp drop in demand for jet and motor fuels. Our management team showed efficiency and flexibility despite limitations introduced because of the COVID-19 pandemic. Therefore, in this extremely challenging and volatile environment, we were able to perform well in the second quarter and once again confirm the resilience of our business. Despite an increase in the working capital, we managed to keep free cash flow positive as opposed to most of our peers, and though the Company's investment program was downsized is start to their optimization efforts, it's an insufficient to implement our key projects as planned. While revenues declined by more than 40% quarter-on-quarter, EBITDA led only by 4%. Moreover, the decrease in upstream EBITDA was completely offset by its growth and the downstream segment. The results were supported by both carrying over factors and there are efforts to cut costs, smartly reduce production by shutting the least profitable wells and quickly optimize the refining capacity utilizations coupled with strong trading forms. Net profit was significantly affected by the impairment of assets on the back of a weaken market environment. Thanks to a highly efficient business model in the second quarter of 2020. Work while maintaining the strong leadership standing in the industry in terms of the unit financial metrics among our competitors, many of which posted operating losses and negative free cash flow. I would like to note a significantly lower gap between LUKOIL's EBITDA to barrel and that of international natures which was largely attributable to the natural hedging of our Russian assets. Has mobility restrictions are lifted, we see the demand for hydrocarbons recover. However, the recovery speed varies greatly depending on the type of oil products and the region. For example, our retail sales of motor fuels are only 5% lower year-on-year. At the same time, our plane fueling sales decreased by 50%. Oil demand is forecasted to reach 95% of its pre-crisis level as early as the beginning of 2021, but if productivity will take longer, it will depend on the dynamics of the COVID-19 spread and the pace of lifting the restrictions. The recovering demand against the backdrop of production cuts by OPEC+ and other players has already put beyond markets in deficit. As a result, we see a gradual reduction in accumulated inventories which supports oil prices. At the same time, price forecasts haven't failed compared to early June when we presented their results for the first quarter and this is primarily due to the forecasted drop on the supply side. The current market trends and forecasts and demonstrates the effectiveness of our strategy aimed at maintaining pre production capacity. I would like to note that today LUKOIL is basically positioned to derive full benefits from an improving market environment. We are prepared to increase oil production and get back to sustainable growth at any time high margin barrels whose profitability has been significantly affected by lower prices and now, an important driver of the financial results recovery, and it is important that we keep steadily increasing our high margin production even in the times of crisis. LUKOIL's downstream can adjust promptly to changes, thanks to good access to markets, including through our and trading operations delay base of the second quarter in terms of both refining margins and throughput allows us to significantly improve our financial results and the downstream as cracked spreadsheet account them. Next year's plan of the light oil product yield following the launch of new conversion facilities will provide the downstream with additional benefits from improved market conditions. In the current situation the Company has put an ever greater focus on the optimization of all expense items. I would also like to remind you that our efficient dividend policy according to which the entire free cash flow generated in better market conditions will be paid out as dividends. LUKOIL's robust financial position has traditionally been our traditional competitive edge. Now next financial debt was placed zero at the end of the reporting period. This enables us to own an all our obligations while continuing to develop the Company in line with our strategy no matter have volatile the prices in a highly volatile market environment we have been working to increase the liquidity available to us. In particular in the second quarter, we successfully placed 10 years unit bonds for $1.5 billion and significantly increased the amount of committed credit lines, which now stands at some $3 billion. In July, we paid final dividends for 2019 and the amount available $240 billion without compromising the financial stability of the Company. As a reminder, the dividends were paid out from the actual free cash flow generated in the second half of 2019. During the previous call we announced the optimization of this year's investment program. At the end of the second quarter, the actual savings amounted to some RUB25 billion. We expect to the savings to be even greater as we move further in the second half of the year and the current savings for in projects. You may remember that the internalization mostly includes the best payment of expenditures and explanation and early stage upstream and downstream projects to a lesser extent to reduce our drilling and construction expenditures. In other words, later, capital expenditures did not affect the implementation of key projects or the achievements of the Company's strategic goals. We are today at targets for investments in 2020 in the range of RUB452 billion to RUB500 billion excluding the servicing project in Iraq. This amount, we can quickly boost our investments in some of the projects depending on the market environment. Let me remind you that how base case plan for 2020 assume capital expenditures around RUB550 billion this means that following the optimization cost savings will enhance to 20% in RUB and up to 25% in U.S. dollar terms. In addition to optimizing our investment also stepped up the efforts to count all the Company's expenses as the end of the second quarter, almost all conditionally controllable expenses decreased in absolute terms quarter on quarter, though the unit cost went up this increase is attributable to a certain share of fixed cost and made a cost reduction in production volumes. This means that as production and refining volumes recover the indicators will normalize. Let me stress that our cost reduction assets did not affect any aspects of industrial safety and environmental protection including climate change management, following a major diesel fuel spill in the north attributable to Russian metallurgical industry. Permafrost risk management has stepped into the limelight. Importantly, recoil has been operating in the arts exam for many years. We leveraged the most advanced acknowledges and take maximum responsibility for industrial safety and environmental protection. The Company built its entire infrastructure in the Permafrost area using the specially designed technical solutions and in compliance with special standards. We regularly monitor and control the condition of soils and production facilities. LUKOIL's costs of maintaining infrastructure in the north are substantially higher than in Permafrost 3 regions. All this allows us to effectively manage Permafrost risk in order to prevent environment incidents. Finally, few words on managing the direct risks of the coronavirus pandemic, the safety of our employees and the continuity of our business processes have been as enhanced across all our considerations amidst the pandemic. The steps we took unable us to prevent any measure outbreak at LUKOIL's facilities while ensuring the continuity of our business processes across the board. Thank you, now I'd like to hand over to Pavel Zhdanov.

[Pavel Zhdanov:]

Thank you, Alexander, and ladies and gentlemen. I will present our results in the upstream segments. In the second quarter 2020 based on unprecedented volatility of oil crisis have unplunged to 20-year low of $13 per barrel, Brent traded about $40 per barrel as early as in the beginning of June. This was facilitated by the new OPEC+ agreements. At the same time due to the sharp decline of Russian oil supplies to Europe, Euros crude traded at a premium to Brent. The average Euros crude price went down 39% quarter-on-quarter in parallel the Euros natural book price added 15% due to the tax leg effects and ruble devaluation. July and August so further improvements in the market environment with the Euros natural book price reaching its 2019 average. In the first half of 2020, average hydrocarbon production excluding the West Qurna-2 projects totaled 2.2 million barrels per day, down 8.4% year on year. In the second quarter significantly cut production following the new OPEC+ agreement and lower gas supplies from Uzbekistan to China, which was attributable to the coronavirus pandemic aftermath. However, the production of high margin barrows continues to grow fully in-line with our plans with their sharing total output industry rising by 3 percentage point year on year. Gas production in Russia also grew after the second stage of the booster compressor stations launched at the Nakhodkinskoye field late last year. I'd like to talk more specifically about oil production development driven by OPEC+ agreement. Since May 1, we have cut our oil production in Russia by 19% or about 310,000 barrels per day against average daily production in the first quarter. We did say by shutting in the least profitable high water cut wells predominantly at mature fields of West Siberia, Euros and the Komi Republic. Let me remind you that when draft and the list of wells to be shut in we acted in both the economics and geological and technological factors to avoid negative effects to under long-term production potential of our fields. Based on our experience from the previous OPEC+ agreements and the results so the last few months, we know that the production from certain wells can be quickly restored without losing their potential, and particularly have increased output by 20,000 barrels per day since the July 1, and by another 60,000 barrels since August. Remarkably, most shut in wells managed to restore production within a single day, with the still production based on the economics and the focus and restarting the most profitable wells. We continue maintaining our production potential at about 230,000 barrels per day of free production capacity in Russia currently. So we are able to promptly restore the production back to normal and secure further sustainable growth. As the market environment deteriorates in production declines, the upstream EBITDA by 34% quarter-on-quarter and 61% in the first half of 2020. The much lower quarter-on-quarter decline was attributable both to the tax lag effect in Russia, which was deeply negative in the first quarter before turning positive in the second quarter on the back of recovering oil prices. In addition to lower gas, now this is in that case, our international assets also suffered from low demand for gas from China forcing the Uzbekistan projects to redirect to the domestic market. That was why the second quarter results we're also adversely affected by gas price adjustments in Uzbekistan in the first quarter. Notwithstanding the unfavorable market environment and external limitations on production, we continue to aggressively develop our priority projects. The drilling program and Caspian Sea helped us to keep production as the Yu. Korchagin OR V. Filanovsky fields as the target levels. In the first half of 2020, the combined oil and gas condensate production reached 3.7 million tons generally flat year-on-year. From the outset, we have successfully drilled 14 production wells with another three wells to be commissioned by the end of this year. As part of the Valery Grayfer field developments, shipyards continued building platforms. At the end of June, the ice resistant stationary platform was 48% complete and the commendation platform was 74% complete. In May offshore jackets for the accommodation platform were installed in the Caspian Sea. The plan for September is install offshore jackets for the ice resistant stationary platform as well. As a reminder, oil production is set to commence as early as in 2022. As for the Baltic Sea, so we are finalizing the feed work on the D33 field with final investment decision expected at the end of this year. High viscosity oil production in Timan-Pechora was up by 4.5% year-on-year. In the first half of 2020, SAGD production wells and 157 underground wells were commissioned as the Yaregskoye field, the Usinskoye field commissioned 11 production wells. We continue expanding our field infrastructure and production facilities to support further production growth. By the end of this year, the Company plans to commission years steam generating facilities. We are actively striving to reduce our high viscosity oil field development costs. For instance, given the large number of wells required for the Usinskoye field to reach its production targets we focused on optimizing drilling operations. Currently, we are testing the technology for drilling small diameter wells, which is likely to result in significant cost savings. The preliminary results already speak for its great potential as the Usinskoye field. As a reminder, this technology is now being successfully rolled out and the Euros and the Volga region in the first half of 2020 we launch 61 small diameter wells and more than two fold increase year-on-year. Our major low permeability fields in West Siberia increased production one and the half times year-on-year. I would like to make a special mention of the Sredne-Nazymskoye field, which doubled its production. In the first quarter of 2020, 93 production wells were commissioned at low permeability fields. We continue our efforts to contribute development costs. In particular, we increased the for example during speed at Sredne-Nazymskoye field by 9% year-on-year, reducing the per unit drilling costs by 5%. So in the worst case yield, we managed to increase the directional drilling speed, which was already kind of the speaker's mind by another 10% year-on-year, further reducing the per unit drilling costs. As they Sredne-Nazymskoye field, we optimize the world designed to increase the horizontal drilling speed by more than 25% and reduce the units directional drilling costs by more than 20%. Given the large number on new rows as led from the related fields, even small cost savings translate into significant CapEx cuts in absolute terms. In conclusion, I want to update you on the situation with our projects in Uzbekistan. In addition to short-term decline and guest demand from China, pipeline gas turned out to be more expensive than LNG in the coronavirus pandemic aftermath, which made China scale back its gas this and in Uzbekistan. As a result, we had to gradually cut production then. Currently our daily adds which amounts to 20% of the design capacity with production at project completely suspended. Also, we could not export the bulk of gas produced in 2020. Sending into the local market, the China gradually ramp some gas prices in Uzbekistan, our project hired to resume exports. Pulling air in negotiations with Uzbekistan we have achieved a preliminary agreement for the sale of gas on the local markets in 2020. We also continue negotiations to resume exports. The changes in high gas supply times resulted in revenue adjustments in the first quarter by RUB5.5 billion, also translating into further rev reduction in the second quarter. And year with dramatic decline and production we also run, we also ran another impairment test to the financial model of these projects relied on conservative assumptions with impairments amounting to RUB36 billion. Now, let me hand it over to Alexander Palivoda, who will present our results in the downstream segment.

[Alexander Palivoda:]

Thank you, Pavel. The market environment for European refineries changed sharply for the worse in the second quarter of 2020. The average benchmark margin decreased by more than twofold quarter-on-quarter and they will hit negative numbers at the end of the second quarter. The drivers behind the margin decline were lower crack spreads for diesel and gasoline on the back of the coronavirus pandemic customers, as well as faster growth of Euros prices as compared to their prices. In July and August the margin return to positive territory but remained extremely welcome economic evaluation refineries was under pressure from the decrease of European margins and also from the lower export der to differential and large negative dampen. As a result, the benchmark margin in Russia went to negative territory in the second quarter. I would like to note that optimized capacity utilization and high quality of our projects slate helped our refineries achieve positive results for the second quarter. In July and August, margins interest rates into positive territory on the back of recovery in European margins growing extra due to differential and negative damper. As the refining margin decreased and the demand for jet and major fuels declined sharply, we swiftly optimize capacity utilization and have production facilities and minimize negative effects on the market environment on the financial performance. Furthermore, extensive shale repairs were completed at some of our refinery. As a result, our refinery throughput on the second quarter decreased by 21% quarter-on-quarter. The decrease in the throughput at Russian refineries was first of all, its scheduled repairs at the Nizhny Novgorod and Okta refineries, which coincided with proven market environment and falling demand. These were large scale maintenance rigs, which are conducted once in four years. At the same time, our two best Russian refineries, Volgagrad and Pam did not reduce their throughput volumes in the second quarter, so they carried on as normal. In other countries, scheduled repairs were carried out as the refineries in Bulgaria and the Netherlands. Furthermore, capacity utilization at the Isab refining facility in Italy was reduced by 20% or about so quarter-on-quarter is both of that optimization effort in the current market environment. As the environment improved and scheduled repairs were completed in July, we began to covering the throughputs and tariff facilities in August the throughputs increase to reach 87% of the August, 2019 level. We continued improving our product slate, the few oil yield across the grid dropped in the second quarter to record low of 6%, which is 2 percentage points better than our target for the current year and two times allowing absolute volume trends then in the second quarter of 2019. Now a couple of words about our premium sales channels, lower demand for many fields effected sales and tariff filling stations in the second quarter. Sales head the bottom in April when they were down more than 30% year-over-year. In May, retail sales begin to recover gradually as economic activity big steps in Russia and Europe. The recovery of sales continued in July and August so the difference from the last year's figure has shrunk to about 5% for now. Recovery is Russia is going faster compared to the European chain of filling stations. The coronavirus pandemic had the most dramatic impacts on the consumption of jet fuel. In April, our daily average aircraft fueling sales were down 75% of the levels seen in April, 2019. The gradual recovery but it is not slower pace than nature of the fuel sales, for instance by August sales at the air hubs across our geography 50% of the levels seen last August. The growth of sales was supported by an increase in flight numbers. In the second quarter, the difference between netback for oil refining at Russian facilities and exports netback decreased to historic low due to a sharp decline in the refining margin. Oil supplies to refineries declined in the second quarter in the back of lower throughputs. At the same time, we increased deliveries of our oil to LUKOIL facilities in Europe, and that's reduced purchase of third-party feedstock in order to have guaranteed placements of our own crude oil and made collapsed demand. Oil exports declined in the second quarter and most due to production cuts in accordance with the new OPEC+ agreement. By contrast, exports of oil subject to a lower rate export data increased because their high margin projects did not cut oil production. Despite the decline in margins and throughput, downstream EBITDA grew almost twofold quarter on quarter. The growth was driven by strong performance in the downstream segments outside Russia mostly due to the carrying over effects from the first quarter in particular the inventories unsold in the first quarter were revalued on the back of falling prices for oil and oil products with a negative impact on financial performance. In the second quarter, most of this impact was recovered with a positive effect on EBITDA. As a result, revaluation of inventories had almost no impact on our performance for the first half of the year. Similarly, EBITDA in the segment was affected by the factor of incoming inventories and refineries they were negative in the first quarter and close to zero in the second quarter. Our trading operations demonstrated record high financial results in the second by capitalizing on access to markets and high volatility. I'd like to stress that the third-party trading volumes were reduced in order to distribute rain volumes. It is also important to mention timely optimization of the output mix and capacity utilization at our refining facilities as it minimized the negative impact of market conditions on our financial performance. However, hedge accounting in our international trading operations and seasonal performance deterioration in power generation did affect downstream EBITDA. In the first half of the year, downstream EBITDA decreased by almost one third year on year mostly due to negative effects on incoming inventories as the refineries and lower refining margins. Performance was supported by the product fleet optimization and strong reforms of international trading operations, challenges posted by the coronavirus pandemic did not affect to our selected project, as the refining still it is in Russia. And delayed construction projects and newly inaugurated main long lead items have been installed. The work is now underway to install on-site pipelines and complete technological equipment starting. The project was 75% complete as of the end of the quarter. Schedule for commissioning in 2021, the delayed coker units will significantly improve the output mix of the Nizhny Novgorod refinery. Construction of the isomerization unit is ongoing at the same site. All major units of equipment have been delivered and have been installed. The work is underway to install metal structures, cables supports and technological pipelines. That project was 77% complete as the end of the quarter. As for the Asphalt unit construction project at the Volgograd refinery, we're finishing the installation of core technological equipment and are installing technological pipelines and control valves, the project is over 80% complete. Now, let me briefly outline our financial performance compared to the first quarter of 2020. Drilling is dropped by 41% to quarter on quarter. In addition to the key factor of prices, the negative impact on revenue came from lower volumes of hydrocarbon production, a decline in trading volumes in oil and petroleum products and also lower retail sales of petroleum products. On the other hand, our revenue was supported by the ruble devaluation. Despite a significant drop in revenue, EBITDA was down just by 4% to RUB134 billion, which was due to the factors carrying over from the first quarter. The reversal of the unhedged inventory write-down was the first choice here. Let me remind you that in the first quarter, this write-down amounted to RUB34 billion. In the second quarter, the write-down was reversed were in amount of RUB30 billion, hence the effect of this driver in the first half of the year was just RUB4 billion. In other driver, it was the positive tax lag affecting the Russian upstream. After the negative tax lag effect in the first quarter. And yet another one is the inventory effect of our refineries, which I have already spoken about. The second quarter EBITDA was also supported by record high trading performance, a high share and high margin barrels in Russian output and the ruble devaluation. The Company posted a net loss for the quarter, while its profit from operating activities was positive. The loss was due to the impairment of assets totaling RUB39 billion, RUB36 billion of which are attributable to the projects in Uzbekistan, and positive impact on the profit came from FX gains on the back of the ruble appreciation versus the loss in the first quarter, and low depreciation associated with lower production volumes and lower expenditures at the servicing projects in Iraq. The normalized level of profit that is net of one-off and carrying other factors totaled about RUB10 billion in the second quarter and more than RUB110 billion in the first half of the year. Despite the challenging environments, our free cash flow was about RUB26 billion. As part of our contango strategy, we additionally increased our unsold oil inventory in the second quarter which resulted in working capital growth. The free cash flow before changes in the working capital amounted to RUB38 billion versus RUB10 billion in the first quarter, a positive impact on the cash flow was made by a RUB13 billion reduction in capital expenditures quarter-on-quarter and increase in the operating cash flow before changes in the working capital. Thank you. We are now ready to take your questions.

[Operator:]

[Operator Instructions] Our first question comes in from the Russian line from Karen Kostanian calling from Bank of America. Karen, please go ahead.

[Karen Kostanian:]

I have two questions. One is just to clarify, just to clarify your CapEx for the second half of the year. Do I get estimation right that we can expect reduced share CapEx, as compared to what he had last year? Or did mention the reduction in percentage is the original budget rather than the previous year? And my other question is about your high margin barrels. I remember, you had high hopes with the high margin barrels, but given the recent initiatives of the Ministry of Finance. Have you adjusted your plans in any way? And what's your vision of the imputed income whether you're going to re-stream your CapEx elsewhere given the potential changes on the tax side?

[Pavel Zhdanov:]

Thank you for questions, Karen. Our CapEx guidance remains as we did that in the previous call, RUB450 billion to RUB500 billion that's what is said that's the end of Q1, and you can compare the numbers vis-a-via what we had at the end of the first six months 2019. And the percentage and the presentation deferred to reduction vis-a-via the original budget for 2020. Well, the imputed income. Well, that is an important initiative that we're talking about, the recent initiatives by the Minister of Finance and other relevant agencies, still discussing. We believe this is the most efficient way to stimulate developments of the Russian subsoil use, these are new approaches, but still good stimulating measures. For example, in our case, we've had more than 20% tries given the additional income pilot projects in some of our fields and on the investment side and Tier 3 projects of the kind, they went up by 24% year-on-year, reaching RUB13 billion in the first six months and last year and RUB7 billion this year versus six months, which is 16% up. As a result, these lost yielded 7% more now last year and $0.09 more in first six months this year. We are considering a significant increase in the financial act, but like since the launch of the test in early 2019. As you know, we're always against any changes in the tax rules once these have been approved. The investment cycle in the oil and gas industry is very long and instability of the tax base does not facilitate sustainable development of the industry. So, we hope the regulator makes imbalance decision in this regard taking into account the interests of the subsoil uses as well as regulatory himself. Thank you.

[Operator:]

Next question comes in from the line of Katya Rodina calling from GTB. Katya, please go ahead.

[Katya Rodina:]

Thank you for the presentation and this opportunity to ask the question, I only have one. So it's just to follow up on the previous questions and you answer to that. Considering industry stance, LUKOIL has really increased, it's doing like 20% or so including with Siberia in absolute terms. It's about 1.5 million meter in the half year. Could you probably give some guidance for the full year? What's your drilling target in meters or in other terms? Can you give some guidance here?

[Pavel Zhdanov:]

Thank you, Katya. The numbers that we have demonstrated that we ramped up are drilling in the first quarter, mostly the first quarter of 2019 like that was before the pandemic and we had been going on with the original plan of high CapEx. In Q2, we decided to see wind down by going like up, to 20% of the drilling plan has been moved down to Q3 and Q4 and expectation of how OPEC+ would be developing. I don't have the numbers for the full year because again that is going to depend on the constraints and restrictions.

[Operator:]

We have a question coming in from the line of Alex Comer calling from JPMorgan. Alex, please go ahead.

[Alex Comer:]

Just a couple of questions from me, just on the Uzbekistan gas business, in terms of outlook, I wonder if you could give a little bit more clarity on what you think will happen next year in subsequent years? I mean, should we model this production getting back to where we were? Or do you think the markets changed in a more permanent manner? That's the first question. And then just with regard to your M&A thinking, given where we are an uncertainty over the right demand recovery in future years, how are you thinking about your M&A?

[Alexander Matytsyn:]

Well, considering your first question, as to how we see Uzbekistan, looking forward -- again, the recovery in Uzbekistan is going to demand on the consumption developments in China. We are proceeding from the assumption that we are already seeing some recovery and the key driver was price because LNG spot prices for LNG were lowers than pipeline gas, including pipeline gas from Uzbekistan. We are expecting that pipeline gases are going to be more competitive on the price side and the very near future and China would restart procuring gas, including our gas from Uzbekistan. So for now we don’t see any reason to change the volumes for the future. And your models as to your second question the strategy remains that are a very optimistic strategy. It really considered potential targets in the regions and geographies of our presence, where we have strategic interests and competencies. So we are going to keep analyzing potential targets selectively, but it's too early to consider any announcements.

[Operator:]

Thank you. Next question is coming from the line of Ron Smith calling from BCS. Ron, please go ahead.

[Ron Smith:]

My question is on dividends, I saw a bit of against about the imputed first half dividend levels. Could you complete them for the full year? If necessary, you will borrow to pay out the minimum 50% of net income set out in your dividend policy, if free cash flow is insufficient to cover it?

[Pavel Zhdanov:]

Well, as to the dividend policy, we follow the dividend policy which suggests that we pay at least 100% of the adjusted free cash flow and there is no link to the net income. And our dividend policy because we have changed that, and we are going to stick to the new dividend policy, our dividend for the first quarter -- sorry, and the first six months of course, standard RUB46 per share according to our calculations. And a quick follow up -- a quick follow up, if I may. The decision on the dividends is going to be made by the board of directors, which is set to meet and exceed for this year.

[Operator:]

Thank you. Now moving back to the Russian line where we have a question coming from the line of Alexander Burgansky calling from Renaissance Capital. Please go ahead.

[Alexander Burgansky:]

Alexander Burgansky of Renaissance Capital. Good afternoon. Thank you for presentation. I have two questions. Well, I see that your dry well in Romania has been written-off according to your accounts, but can you develop on the prospects of your projects in Romania, especially given the new discovery in Turkey? That's one thing. And one other question is about fuel oil prices for the full year of 2020. Can you say which is going -- which share of your fuel oil production is subject to the excise duty? Thank you.

[Alexander Matytsyn:]

Thank you for question, Alexander. As to our dry well in Romanian, the prospects of that projects and the write-off of the dry well, well, we are still considering the geological prospects of this particular project. And it's too early to make any announcements and plans for the future as yet whether we are going to carry on and what particular formats. I believe we will be ready to disclose further updates on this project once we have concluded our studies. On the excise duty for fuel oil, as we sell fuel oil in Russia, the new excise duty that was introduced for mid this product. Well, it's first and foremost targeted for bunkering field while fuel oil has anything in material or close to zero share of it that is subject to the new excise.

[Operator:]

We have another question coming through from the line of Karen Kostanian.

[Karen Kostanian:]

My apologies for asking another question. Just to clarify, the oil price has plummeted production is limited given the OPEC+. And despite all of that, your CapEx guidance floor isn't far with your actual CapEx in 2019. Frankly speaking, that is not what you would typically see elsewhere with global oil and gas majors. And it is not typical for LUKOIL historically. Are trying to build some stronghold for the future? Or like how can it be that this year's CapEx could be even higher than it was in a relatively well off year of 2019? Thank you.

[Pavel Zhdanov:]

The rationale is pretty straightforward. We have the FX effect like downstream projects have a lot of equipment that is procure in FX. There is no reduction in ruble terms. On the upstream side however, we have decided to maintain the production potential. So, that's a reasonable decision and maintained the potential requires investments on par with where they were in the previous year. So that's an extremely important matter, as we say, it's maintain the production potential, because we don't really control the production quotas. We simply follow the rules set forth by the Ministry of Energy. We are expecting the schedule of these changes is going to stay unchanged and we may so judgments and decisions on that, so we'll be moving further.

[Operator:]

We have a question coming from the line of Andrey Gromadin calling from SBERBANK. Please go ahead.

[Andrey Gromadin:]

Thank you for the presentation and opportunity to ask my questions. I had a question on Uzbekistan. Pretty good more insights into the link between the experts volumes from your project Uzbekistan at attempt to export from that country, because Uzbekistan is exporting not only to China, guess from is also getting some gas from the country. So, nothing even split or as there any ratio, any other links. Now the rate of 1,300 for your projects Uzbekistan is not that brand as compared to the total investment volume. Don't get it try that it would be more about one off during 2020. I mean the payback period and that is also linked to selling gas on the local market rather than considering the global prospects for these projects?

[Alexander Matytsyn:]

Well, now, it only tells, that was the case we'll get started because of our production sharing agreements, we have to be assigned and they have certain specificity. And we have an agreement to supply gas to the domestic markets for 2020 alone, we hope that starting from 2021 the expert volumes could become negotiations with the Uzbekistan side continues, so I cannot provide any further comments at this time. I'm hopeful that sentence Just future, the official agreement will be rolling out.

[Operator:]

We have another question coming in from the Russian line from Ildar Khaziev calling from HSBC.

[Ildar Khaziev:]

Thank you I have two questions. My first question is about your lease contract payments. You have a high care in Q2. Is that related in any way to the frame rates and I guess it trying to the situation has goes back to normal in Q3? My other question is about downstream margins and refining margins. So it has been close to zero or even negative for four or five months running. However, long-term is done unless the demand recovers. So in your presence in many regions, I'm wondering, what's your outlook across the board?

[Alexander Matytsyn:]

There is a high candid. And that is related to our freight costs for the oil and oil product tankage. So the increase here is explained by the fact that we have entered into new additional agreements to freight the tankers so that we could leverage on the market environment to the extent we can and act upon our trading strategy that we devised for the period of low demand and low oil prices. We also have an understanding that the situation currently is temporary. So the numbers will be going back and recover pretty soon. So the contracts are short term. Maybe not in the third quarter, but in the fourth quarter definitely, we'll see some significant reductions the line you're referring to. Now, the refining margin question and the market situation, frankly, the situation is rather challenging. So given that LUKOIL has a trading business and well-developed midstream segments and great access to the markets, I'd say we are less incentivized, less to optimize our volumes. Just like I said, we did reduce the volumes in Q2 by 21%. That was mostly driven by the fact that Q2 2020 had some major repair and overhaul operations platform. That led to either full stop of the operations and some refineries or at least significant reduction in the refining volumes. And the negative margins as you are referring to the dramatic fall of demand for such products is jet field, for example, resulted in the fact that we had to optimize our slate. I would say, LUKOIL doesn't mean that much to reduce its refining volumes in order to respond to the lower demand because let me reiterate it, LUKOIL has great access to the markets -- has great access to the final consumer. So we're more guided by the dynamics of refining economics, and we optimize capacity utilization at the refineries to balance our financial performance. As to the current situation, well, the crack spreads for petrol and diesel field remain at low levels. It's hard to make any forecast in this regard, given that a lot depends on the future rates of recovery. On the other hand, the demand is recovering pretty fast if we can judge by our sales network. So at some point in time, these developments are going to bring higher crack spreads. And the lower crack spreads, at least for diesel fuel are definitely not a sustainable trend in the longer term.

[Operator:]

We will now move to the English line where we have a question coming through from the line of Henri Patricot coming from UBS. Please go ahead.

[Henri Patricot:]

Thank you for the update. I have a couple of follow ups on Uzbekistan and one on refining. So on Uzbekistan, just want to check in the near term. What is the earliest that you expect to be able to restart the export? It sounded like it could be 2121 earlier? And secondly how much can you sell to the domestic market? Is it for Q1 data that you mentioned for August? Is it higher or lower than that? And then an interest on refining and the Niznhy Novgorod coker, when exactly do you plan to start-up that unit in 2021?

[Alexander Matytsyn:]

I think we have answered 5 billion cubic meters in the domestic markets. I think we mentioned that in the presentation. So, that all we can be talking about for now, the start of the exports will be linked to increase in pipeline sales of gas to China because that's the main market for Uzbekistan. So, it truly depends on the prices for pipeline gas vis-à-vis prices for LNG. As to the delayed coker in Nizhny Novgorod, we can't produce the answer to the top of our heads. We'll revert to you with the precise month in 2021when we're going to start that.

[Alexander Matytsyn:]

Since we don't have any further questions, we would like to thank everyone for taking part in this call and see you next time. Thank you for participating.

[Operator:]

Ladies and gentlemen, thank you for joining today's conference. You may now replace your handset.