PJSC LUKOIL
Q4 2018 Earnings Call Transcript

Published: 5 Mar 2019

[Operator:]

Good afternoon, ladies and gentlemen, and welcome to the LUKOIL's 2018 Financial Results Conference Call. My name is Mary, and I will be your coordinator for today's conference. For duration of the call, you will be on listen-only. However, at the end of the presentation, you will have the opportunity to ask questions. I would like to inform you that questions from the press will not be accepted. [Operator Instructions]. I will now hand you over to Alexander Palivoda, Head of Investor Relations, to begin today's conference. Thank you.

[Alexander Palivoda:]

Thank you. Good afternoon, ladies and gentlemen. Thank you for joining us today on LUKOIL's 2018 results conference call. Since this call is focused on the annual results, it includes a wider list of participants. On today's call we have Mr. Alexander Matytsyn, First Vice President and CFO; then Mr. Azat Shamsuarov, Senior Vice President for Exploration and Production; Mr. Vadim Vorobiev, First Vice President for Refining and Distribution; Mr. Pavel Zhdanov, Vice President for Corporate Development and Investor Relations; and Mr. Gennady Fedotov, Vice President for Economics and Planning; as well as our colleagues from the accounting team. Before we proceed to this presentation, I would like to draw your attention to the fact that some of our comments during this call constitute forward-looking statements that involve risks, uncertainties and other factors which may cause our actual results to be materially different from what's expressed or implied by such forward-looking statements. More detailed information is presented on the slide. In March 2018 we presented our new long-term strategy with new with its cornerstone goal of unlocking existing potential. At today’s call, we will elaborate in detail on interim results of its execution. After the presentation, we will hold a Q&A session. Now, I would like to hand over to our CFO Mr. Alexander Matytsyn. Please go ahead.

[Alexander Matytsyn:]

First thing with confidence and our established strategy. Despite the external limitations, our hydrocarbon production was up my 4%, a record growth rate for the last decade, this rate exceeds our initial plan for the year by 3 times and our minimum strategic goal by 4 times. The production growth was accompanied by the improvement of production mix. The share of high-margin barrels reached 26% which had a significant positive impact in our financial performance. In line with our strategy, we prioritized value creation over production volumes growth, showing solid results for both these goals in 2018. In order to expand our production potential, we make special efforts to boost technology development, efficiency improvement and cost production, all of which strongly contributed to the full replacement of our proved liquid reserves in 2018. In downstream, throughput volume remained flat year-on-year while fuel oil output continued to decline. In line with our strategy, we're focused on enhancing operational efficiency and cost optimization. We have also launched several selected projects aimed at improving the product slate at our refineries. In the marketing sector, we have increased our sales volumes with a special emphasis on premium high margin segments. As part of our progressive dividend policy, we have continued increasing dividends faster than the guaranteed minimum growth rate, thus setting a higher base for future dividend growth. We have been executing our open market buyback program since last September. And we have already allocated over US$1.5 billion to this end and purchased almost 3% of the agenda capital. I also would like to remind you that in November 2018 we cancelled 100 million treasury shares as part of our strategic initiative and reduced the share capital to 750 million shares. This was an important step towards enhancing our corporate governance standards. We recently launched another initiative and brought to the upcoming Board of Directors Meeting the question on amending our dividend policy. The proposed amendment will enable reflecting the effect of the reduction in the number of outstanding shares due to the buyback, which in turn, will lead to higher dividend per share growth rate. This step reflects LUKOIL’s commitment to consistently elevate our standards. The macroeconomics in 2018 were favorable for our business. The average annual oil price grew by more than 30%, while the ruble depreciation continued, along with our strong operational performance. This contributed to the achievement of record high financial results. EBITDA grew by 34% and exceeded RUB1.1 trillion. This is a record high for LUKOIL. Upstream was the main growth driver partly due to the volume increase and production mix improvement. I would like to underline the quality of our key projects delivery. For some of them we have been able to significantly exceed our targets. Our free cash flow more than doubled reaching a historical record high in both ruble and dollar terms. It amounted to RUB555 billion or US$8.7 billion. Capital expenditures was one of the factors behind the free cash flow growth. In line with our strategy, we have substantially strengthened our capital reinvestment discipline. Our actual capital expenditures in 2018 were 10% lower than initially planned. To a bigger extent that was a result of structural savings which positively impact not only the 2018 free cash flow but also our plans for future periods. In 2018 we actively developed a key tool for our strategy implementation, namely the flexibility of our planning and capital reinvestment system. We worked on creating a pool of prepared investment projects in order to reinvest additional cash flows resulting from favorable price environment. We meticulously analyze all parameters and risks and every detail to ensure a guaranteed target return. Capital reinvestment discipline is one of our key priorities. In 2018, the return on capital employed was 15% which is in line with the strategic target. Our main objective is to keep achieving at least similar returns in the future. Needless to say, a lot depends on factors beyond our control including prices but we will make every effort to ensure that the factors we do control support the achievement [at] our goals. In 2018, we increased our advantage of our Russian phase and financial results per barrel of production and even outperformed certain edges. These achievements were driven by focus on improving the production mix, advanced downstream segment and constant cost optimization efforts. We consider continuous efficiency improvement as one of the key drivers at our strategy aimed at unlocking the existing potential. In 2018, we analyzed our expenses in detail and launched optimization programs in both upstream and downstream. My colleagues will later provide you with further details. And I would like to note that given the scale of LUKOIL’s business we expect these programs to generate significant savings compared to our earlier plans which will certainly support an increase in the shareholder value of LUKOIL. We are looking to the future with confidence and believe that our conservative approach to planning and investment decisions along with our continuous efficiency improvements will be foundation of our sustainable development of our business and shareholder value creation and this is a key guarantee of dividend growth and return of capital to our shareholders through share buyback. High level of uncertainty strongly supported by speculative factors persists in the oil market driving high price volatility. Our price benchmark used for investment decisions is at US$50 per barrel. This figure is positioned near the lower end of the fundamental justified oil price range guarantees that we achieve the required level of return on investment. We intend to retain this approach which proved highly efficient in 2018. Spikes in oil prices were followed by sharp declines. Another important factor of our success is the stability of the tax regime. In 2018 a number of changes reflect the high stability of the taxation system’s development trend and its focus on involving more hydrocarbon resources into production. We are very positive about the introduction of the profit-based tax which further enables us to unlock the incremental potential of our upstream assets in Russia. The sustainability of our business largely realized on maintaining high health and safety and environment standards which is central to our risk management framework. Our 2018 results are a good example of the consistent improvements achieved in this area. Injury and accident rates are steadily decreasing along with our overall environmental impact. In the past few years we have actively engaged with our contractors to ensure their health and safety standards, are raised to the level of LUKOIL’s. These efforts have provided excellent results. We maintain a strong focus on improving the reliability of our pipeline network handling waste and reclaiming disturbed land. We also make efforts in contributing to climate change response and are working to improve energy efficiency and reduce our air emissions while continuously reducing our GHG emissions despite growing production volumes. Commitment to the UN Global Compact’s principles and sustainable development goals remains an integral part of our strategy and is vital to our long-term shareholder value creation. To conclude, I would like to reiterate that we have achieved a lot in this past year, and will continue to develop LUKOIL in full compliance with our strategy. Now, I would like to hand over to Mr. Azat Shamsuarov.

[Azat Shamsuarov:]

Thank you, Alexander. Good afternoon, ladies and gentlemen. In 2018, we showed strong upstream performance under our long-term strategy. In some areas the results have greatly exceeded our plans and expectations. As with the year prior we worked under the OPEC+ limitations. Our baseline year-on-year hydrocarbon production growth plan was in the 1% to 2% range. In the middle of the year we rapidly boosted our daily production by 35,000 barrels through the efficient management of our mature fields following the changes in the OPEC+ arrangements. We also progressed with our Uzbekistan gas projects well ahead of schedule. As a result, our total hydrocarbon production excluding the West Qurna-2 project grew by 3.8% in 2018, considerably above the minimum growth rate set out in our strategy. Following our value over volume strategy, the basic principle, we continued focusing on accelerated production growth at high-margin projects. We have significantly increased our production at high viscosity. Caspian and tight oil as a result of the share of high-margin barrels grew by 5 percentage points and exceeded one quarter of total production. As compared to previous years we have intensified our efforts towards building up additional production potential through developing technologies and cost reduction initiatives. Our West Siberian fields were the key balancing factor to meet external production limitation. But even with the limitations in place, we were still able to enhance production profile in West Siberia, with decline slowing to 3% while production drilling volumes and number of well rigs remained almost flat. This was driven by performance improvements achieved across the board. These achievements allow us to look to the future with even more optimism and set more ambitious goals to improve the production profile at our mature fields. In West Siberia we actively adopted tailored solutions for each deposit. This is supported by technological progress in the areas of multi-zone fracturing, drilling, multilateral and multi-bore wells. Technologies development allowed to increase the share of complex wells in West Siberia by 6 percentage points year-on-year to 39%. Among the key achievements in 2018 was the successful deployment of horizontal three-string wells. We drilled 43 of these wells in 2018, including three multi-bore wells. On average, this technology speeds up well construction by about 40% while reducing costs by approximately 15%. We plan to expand the use of three-string wells. Our mid-term plan provides for a 30% share of such wells and the total number of horizontal wells to be drilled in West Siberia and we explore potential extra value from this technology. We're working on removing technical hurdles that constrain its wider application. Small diameter wells are another example of LUKOIL’s improved technological performance. In 2018, we continued actively rolling out this technology and evolved the region and also drilled the first small diameter wells in West Siberia and Timan-Pechora. A total 48 small diameter wells were drilled in 2018. The average savings exceeded 30% of standard well costs while some wells reached savings of as high as 50%. The result is well above our initial expectations. Another advantage of small diameter well is the reduced well pad costs. We see a huge potential in this technology and plan to considerably increase the number of small diameter wells in the next three years. We continue working on raising energy efficiency within the approved programs. In 2018, the number of artificial lift wells with permanent magnet motors increased by 60% -- nearly 60%. And as at year end, 37% of artificial lift wells were equipped with permanent magnet motors. The energy efficient pump fleet grew by 14% in 2018. These activities translated into cost savings equal to more than 10% to their corresponding electricity costs. Reducing per unit costs is key to meeting our strategic goal of accelerating the pace at which reserves and contingent resources are involved into production. As part of our strategy we have defined our baseline cost reduction targets and set out to design even more ambitious targeted cost optimization programs. I'm pleased to announce that we were able to meet and exceed those plans in 2018 and deliver significant structural budget savings. Drilling costs per meter was down by 5% in comparable structure due to changes in well designs, optimized associated operations as well as optimized contractor management. In 2018, we performed additional analysis to set even more ambitious drilling costs optimization targets. In the medium-term we now plan to at least keep the drilling costs per meter flat in nominal terms. Unit lifting costs were also improved and in 2018 were down by 2% breaking a long-term rising trend. I believe this to be a major breakthrough, worthy of high praise. In 2018 we then integrated analysis on enhancing operating efficiency based on fields in West Siberia. A priority actions plan was designed and the decision was made to roll out the solutions across all LUKOIL’s upstream subsidies in Russia. We have set a rather ambitious goal of keeping per unit lifting costs at 2017 levels in the near-term despite the continued natural depletion of our reserves. We have also met our construction cost targets. Key cost items remained flat from 2017. We see significant potential for further optimization and we'll continue to focus on related initiatives. We are also glad that the government supports our efforts to improve the oil recovery rate and involve more oil resources into production. As you all know, the profit-based tax has been in effect since 2019, and is particularly important for our mature fields. The profit-based tax allows to fundamentally transform the production profile by accelerating the recovery of existing proved reserves and providing the ability to tap contingent resources. For example, we plan to double the production profile from our material licensed areas in West Siberian covered by the profit-based steps framework as compared to the profile under the standard tax system. As a result, mature fields will be rejuvenated and transformed into growth projects. These fields currently produced close to 3% of our total oil output in Russia. Including them in the profit-based tax framework further boosts the share of high margin barrels in our total production. We see it as another attractive opportunity to reinvest capital with additional investment in mature fields under the profit-based tax estimated at approximately RUB65 billion during the first five years. I would now like to present the key results of our priority projects. In 2018 second production platform was launched at the Vladimir Filanovsky fields in the Caspian Sea from which four production wells were drilled and launched into production. Three of these are TAML Level-5 bilateral wells. The application of the integrated model while developing the field enabled effective solution adjustments for well location and engineering. As a result, the field ramped up to design capacity of 6 million tonnes of oil per year in record time of less than two years. Due to record high flow rates, flatter production was reached at only seven production wells. Phase 3 construction is underway at the field. In 2018 jackets were installed in the sea for the third production platform at Filanovsky. At the moment construction rigs at the platform’s topside are in their point of stage. Mounting the top side of the jackets and conventional drilling operations is planned for mid 2019. The second production platform was commissioned and the drilling program was launched at the Yuri Korchagin field resulting in completion of two production wells. We also started the additional drilling program at the first phase of field development with one production well and two sidetracks completed and launched. Those programs allowed for a 23% increase in average daily production at the field in Q4 2018 versus Q1. In July 2018 we made a final investment decision to develop the Rakushechnoe field. The project will use the existing infrastructure of the Filanovsky field for production treatment, thereby diving considerable CapEx savings. So far, the main contractor has been selected. The development of detailed design documentation has commenced and is held for the supply of equipment and materials and manufacturing of jackets and metal, topside has begun. Commercial oil production is planned to start in 2023 with projected plateau level of 1.2 million tonnes per year. We are working to accelerate the field’s launch. Before we proceed to onshore, I would like to touch upon our projects in the Baltic Sea. We have recently drilled the first horizontal well at the D41 field with a reach of almost 7 kilometers. The well was drilled from the shore. Production at the field is due to commence in the nearest future while drilling of the second well is already underway. At the D33 field we have proceeded to the development of the design documentation. Now I would like to move to our onshore projects. In 2018 we delivered impressive performance in high viscosity oil production. Production at the Yaregskoe field increased by half. We successfully launched commercial use of underground low angle upward boreholes of up to 800 meters in length at the field which enabled to significantly reduce the scope and cost of mining operations, while speeding up reserve development. At the Permian reservoir of the Usinskoe field, production grew by 13% year-on-year and the introduction of dayrate contracts helped to achieve record commercial drilling speed an increase of over 30%. We also confirmed efficiency of the small diameter wells which delivered cost savings of over 10%. Full scalable out of this technology will yield significant CapEx savings due to the high number of wells planned for drilling at the field. Active development of low permeability reservoirs was continued. We commissioned 67 production wells at the Imilorskoe field delivering a 31% increase year-on-year. Technology advancement and cost optimization measures led to increase the planned plateau production level at the field to 2.5 million tonnes per year as compared to the 2.2 million tonnes per year announced last year. In 2018, we commissioned 20 production wells at the Vinogradov field where oil production grew by 15%. The field is now at the final pilot development phase to test a development system based on horizontal wells with multistage fracs both for oil production and reservoir pressure maintenance, which is a unique technological solution in Russia. Actual results have proven the solution’s effectiveness and we plan to move the field into commercial development phase. The Vinogradov field can truly be called an R&D site. We drilled there horizontal wells of unique completion design with horizontal boreholes exceeding 2,000 meters and have up to 16 frac ports. We continued working and transferring our tight oil reserves across the fields to the tax advantaged category. We transferred approximately 180 million barrels of reserves in 2018 which builds up incremental upside potential in tight oil production. We have achieved solid operational results in Uzbekistan through the implementation of the project approach. The 8 billion cubic meter Kandym gas processing complex was launched five months ahead of schedule and that is a major achievement for projects of such scale and complexity. The complex was completed in a record time of 24 months. The early launch of the complex resulted in our average daily gas production in Uzbekistan being ramped up to design capacity equivalent to around 14.5 billion cubic meters of gas per year in LUKOIL share. And that was achieved as early as September 2018. Incremental gas production exceeded 3 billion cubic meters due to the early launch of the complex with total production volumes growing by 67% year-on-year. In 2018, we posted an increase in receivables from our Uzbekistan partners for our gas supplies as some of the supplied gas was directed to the domestic market. I would like to remind you that the production sharing agreement terms provide that all gas must be exported. The exports are through the Uztransgaz under a commission agreement. During negotiations on debt recovery, the Uzbekistan counterparty indicated that the debt could not be repaid immediately and that they would need to continue gas withdrawals for the domestic market in the future. In order to stabilize the situation, we have agreed to restructure the debt against a guarantee by the Ministry of Finance of Uzbekistan by extending its maturity by two years with repayment in equal monthly installments. The payment under the new schedule have already begun, and we have also committed to sell up to 5 billion cubic meters of gas annually on a prepaid basis for the domestic consumption at 12.5% discount to the average weighted export netback price. We believe that the agreement reached established as a robust foot forward to continuing our projects and recovering our investment. In mid 2017, we entered the promising region of the Gulf of Mexico having attained the mineral rights to Block 12 offshore Mexico. We expanded our portfolio considerably in 2018 by adding three more blocks. We won Block 28 in a tender together with Italy’s Eni. We will obtain stakes in blocks 10 and 14 following a swap deal with Eni which is subject to Mexican authority’s approval. The expansion of our portfolio in the Gulf of Mexico is a logical international application of our accumulated expertise in offshore projects. In Iraq we successfully negotiated adjustments to the West Qurna-2 projects parameters to improve the economics of the field’s Phase 2 development. The key adjustment was reducing the production plateau from 1.2 million barrels per day to 800,000 barrels per day. We have already commenced rigs under Phase 2 and expect to double production at the field by 2025 from the current level of 400,000 barrels per day. The project development will be financed from current production. Thus, the amount of our capital employed will remain at about US$0.5 billion. We also continued drilling the appraisal wells at the Block 10 in Iraq, where we had previously discovered the Eridu field. Given the size of the discovery and considerably higher service fee compared to the West Qurna-2 project, we began working on accelerating the launch of commercial production, including through negotiations with the Iraqi government regarding pilot oil production from exploration wells. To conclude, I would like to say that the 2018 results prove the effectiveness of our new strategy and we will continue working on technology enhancement, process optimization and cost reduction in order to expand the production potential at our existing resource base. Thank you for your time. Now I will give the floor to Vadim Vorobiev.

[Vadim Vorobiev:]

Thank you, Azat. Let me start with key results in refining segments. Our refining volumes remained stable year-on-year. Our Russian refineries underwent major maintenance of the catalytic cracking units at Nizhny Novgorod and the delayed coker at Volgograd. Despite the maintenance rigs, our light product yield remained unchanged, which we managed to achieve by increasing the utilization of our most complex refineries in Perm and Volgograd. We continued reducing production of fuel oil and cut its output by 800,000 tonnes or by 9% year-on-year. The prompt completion of our large scale upgrade program has made our Russian refineries among the most advanced in the country. To give you a perspective, the national average light product yield net of LUKOIL’s refineries was less than 60% in 2018 against approximately 70% at our refineries. As a result, our refining margin is considerably above the industry average which enables us to generate strong free cash flows from our refineries. Our European refineries also outperformed industry’s average in terms of complexity, thus generating margins above the industry average. We keep going beyond what we have achieved and implement additional selective projects to increase our light product yield to 76% by 2022 and further ramp up our output of high value-added petroleum products. Our largest selected project is the construction of the heavy residuals processing complex based on the delayed coker unit with 2.1 million tonnes capacity at Nizhny Novgorod refinery. This complex is scheduled for launch in 2021. So far we have entered into EPC contracts and started piloting rigs and building foundations for the process’ units. The complex will become the key driver in reducing fuel oil production and increasing the light petrochemical and product yield, mainly diesel fuel output. According to our plans starting from 2022, the fuel oil yield will not exceed 4% across our Russian refineries, including the effects of cross-supplies. And we are also building isomerization unit at Nizhny Novgorod refinery to increase its output of high quality mature gasoline. In late 2018 we signed an EPC contract and preparations for launching the active construction phase are currently underway. Our other selected projects at refineries are driven by the development of our premium businesses. The deasphaltizing unit at Volgograd is an advanced technology that will help increase -- increasing the lead’s quality while reducing the production costs simultaneously. File driving is currently underway at the site. The bitumen production upgrade at Nizhny Novgorod refinery will position us to deliver on our bitumen business development and strategy. And the upgrade will ensure production of a full range of products included -- including Superpave determine following the molted white bitumen and different kinds of mastics. Refining efficiencies are main priority. We are continuously seeking to cut costs and streamline processes in order to increase the free cash flow. All our refineries have annually updated three-year roadmaps to improve their operational efficiency. The roadmaps outline a range of operational measures with zero investments as well as investment projects with very short payback periods. In 2018, we achieved considerable benefits estimated at about RUB20 billion, including about RUB5 billion in cost savings. The roadmap goes set out for the next three years are equally ambitious. New global limits on the sulfur content in marine fields known as MARPOL are coming into effect next year. These are likely to cause deterioration of crack spreads for high sulfur fuel oil and improvements for middle distillates and may affect some other spreads. Given our petroleum product slate, our refineries are well prepared for MARPOL already today and are expected to benefit from the new regulations through improved refining margins. In 2018 the fuel oil output at LUKOIL’s refineries declined to 11% while middle distillates accounted for 47% of the total output. Some of our refineries already have fuel oil free product slate. We also benefit from our existing production of substantial volume of marine fields with sulfur content below 0.5%. On top of that, of our total fuel oil production 1 million tonnes is 1% sulfur content. We produce it at refinery in Volgograd. As part of MARPOL 2020 preparations we have designed a set of measures to optimize capacity utilization, product slates, cross-supplies between refineries and the use of fuel oil at our power generation facilities to maximize MARPOL’s positive impact depending on the crack spreads. The launch of a delayed cocker at Nizhny Novgorod refinery in 2021 will deliver additional positive impact. Depending on the cracks spread, we will be able to cut the total fuel oil production across all our refineries including the cross-supplies to less than 3 million tonnes, which is less than 4% of our total refining output -- refining throughput and 5 million tonnes less than the fuel oil production in 2018. It also must be considered that some of our refineries will continue processing purchased fuel oil, which brings the balancing production volume even lower. We consider development of our petrochemical business supplied with our own feedstock already produced at our refineries as the next stage in developing our refining capacities. Considering high capital intensity of petrochemical projects, we are thoroughly analyzing all the details. The feasibility study for a polypropylene facility at Nizhny Novgorod refinery is close to completion. The concept of the project implies upgrading the existing catalytic tracking units to increase propylene yield. In the coming months, we expect to make a decision on the facility’s capacity. We are also working on feasibility study on styrol production complex at the refinery in Nizhny Novgorod. The concept of the complex implies making use of the ethylene produced from the fuel gas or catalytic cracking and benzene from the reforming unit as feedstock. In addition we started exploring potential construction of a pyrolysis facility of global scale at one of our Russian refineries. The concept provides for consolidating light pyrolysis feedstock from our plants. I will wrap up the refining section with a reminder of our key strategic goals. Given the substantial contribution of oil refining in LUKOIL’s consolidated free cash flow, our main focus is on improving the efficiency of our existing capacities and streamlining maintenance costs to maximize free cash flow. Our second point of focus is making selective investments to further improve our product slates. The third goal is developing of our petrochemical production and the base of existing feedstock. Before moving on to the marketing segment, I would like to discuss logistics. Transportation expenses are one of our major cost items. Transportation tariffs are beyond our control, but we can minimize expenses through optimized supply channel mix. In 2018 we achieved excellent results in this area by considerably increasing supplies via the new petroleum product pipelines launched by Transneft in 2017. They include the South project that supplies our diesel fuel from Volgograd refinery to exports through the port of Novorossiysk as well as a pipeline carrying our gasoline from Nizhny Novgorod refinery to the Moscow region. In 2018, the two pipelines transported a total of almost 5 million tonnes of our products, up 10 times year-on-year resulting in substantial savings on transportation expenses. Our key task in retail is to improve efficiency and maximize the free cash flow from our filling stations network. We have a number of priorities in this segment. First, we focus on streamlining our operating and administrative expenses. In 2018 we reduced our per unit costs in real terms. Second, we're optimizing the geographic footprint and formats of our filling stations network. We implement an upgrade program to increase the share of filling stations with non-fuel marketing space. We build and acquire new stations and also close and divest low margin outlets. Third, we focus on increasing sales of premium branded fuels and non-fuel products and services. In this area, we achieved steady double digit growth. For instance, our sales of active brand fuels in Russia rose by 14% year-on-year. The recent reorganization of our Russian retail network and management system has been an important step towards a further cost optimization. We have consolidated eight managing entities into four with the direct impact on administrative expenses estimated at, at least RUB0.5 billion per year. We also expect benefits from consolidating our procurement and logistics management and from unifying our marketing policy. We additionally have begun enhancing our IT platforms to further improve the efficiency of the retail business management. Growing sales of non-fuel products and services is an important part of our efforts to increase the cash flow from the retail network. Non-fuel sales are rapidly growing high-margin segment. In 2018 our gross profit from non-fuel sales was up 21% in Russia and 19% across our international networks in ruble terms. The further net indicator grew up by more than 10%. The gross profit from non-fuel sales covered the expenses of our Russian filling stations by 39% in 2018 up 6 percentage points year-on-year. We have intensified our efforts in promoting non-fuel sales while adopting modern retail best practices to deliver the maximum performance in this business. Today, LUKOIL is a leader in the Russian aircraft refueling and marine bunkering markets, the high-margin markets. Our strategy in these segments is aimed at maintaining a high market share while increasing sales to our end consumers and improving efficiency. A key goal in aircraft refueling is growing the share of into-plane fueling which enables to substantially increase margins for jet fuel sales. In 2018 our into-plane fuel sales volumes grew by 20% while the total volume of kerosene sales remained practically flat. This impressive growth was primarily driven by the launch of the refueling facility at Moscow Sheremetyevo airport. This is the most advanced refueling facility in Russia. In marine bunkering in Russia we increased sales volumes by 3% year-on-year while small wholesale sales volumes increased by 9%. The production and sales of LUKOIL banded lubricants continued to demonstrate a double-digit growth. We increased the sale of our high value added lubricant range by 12%. We launched online stores as well as sales through global market places. Our special emphasis was placed on developing hi-tech integrated B2B services. We also believe that the developments of our polymer modified bitumen business holds significant potential. As highlighted earlier we developed bitumen production capacities at our refiners and established a center of expertise as cutting-edge technology is vital to ensuring the success of the business. In conclusion, I would like to reiterate our key strategic goal in the Distribution segment. Just as with refining, distribution is a major source of free cash flow for the Group. Therefore, our strategic priority in this segment is improving efficiency. Thank you. I will now hand over to Mr. Pavel Zhdanov.

[Pavel Zhdanov:]

Thank you, Vadim. Good afternoon, ladies and gentlemen. Let me present the financial part of the presentation. The macro environment was more favorable as compared to 2017. Oil prices increased by 31%, was accompanied by weakening ruble which had a positive impact on our upstream results. In the downstream markets there was a slight decrease in benchmark refining margins. In Europe it was driven by deterioration of crack spreads for fuel oil. Industrial and domestic prices for refined products were lagging export netbacks. Sharp decrease in oil prices in the fourth quarter had a negative impact on the upstream but was positive for the Russian downstream due to the stable level of prices for refined products. In the European downstream, refining margins decreased quarter-on-quarter due to deterioration of crack spreads for gasoline. The increase in revenue by 35% year-on-year was primarily due to price factor as well as higher oil trading volumes. Refined product sales volumes grew in Russia mainly because of stronger demand for our products. Lower refined product sales volumes outside Russia were due to lower volume of exports from the country. In the fourth quarter our sales were 11% lower quarter-on-quarter in the back of lower oil prices or lower oil trading volumes as well as oil and refined products inventory buildup. We achieved good results in optimizing and controlling our operating costs. In 2018, our lifting costs in Russia decreased by 2%, thus reversing the multiyear growing trend. Outside Russia, lifting costs were down 10% in dollar terms driven by the growing volumes of gas and overall production structure. Higher per unit refining expenses in Russia reduced due to large scale scheduled maintenance rigs at the conversion units and growing share of higher obtained gasoline grade in the production slate which led to higher purchase of additives and gasoline components. And unit high refining expenses were due to uncontrolled factors including weaker ruble and higher gas prices. Our EBITDA grew by 34% year-on-year and hit a record level of RUB1.1 trillion. The Upstream segment was the main growth driver. Its EBITDA grew by half. Besides higher oil prices and weaker ruble EBITDA dynamics in the upstream was positively affected by bigger share of high margin barrels in total production, higher overall production and lower per unit lifting costs. Export duty lag effects in Russia and external production limits constrained the EBITDA growth. In the fourth quarter of 2018 there was an opposite situation in the upstream, EBITDA was down 29% quarter-on-quarter due to lower oil prices and substantial export duty lag effect. Negative effect from the weak macro environment was partly offset by production volumes growth and the share of high-margin barrels reaching 28%. In the Downstream segment there was mixed dynamics in 2018. In Russia the quality of our products slate allowed us to show an increase in margins at our refineries despite lower benchmark refining margins. In addition, we saw better results in petrochemicals due to better price environment. EBITDA in the retail business decreased due to retail prices lagging wholesale benchmarks. EBITDA of the European refineries significantly decreased due to lower refining margins and inventory effects. Besides that our trading business showed weaker results. In the fourth quarter our Russian refineries recorded higher EBITDA on the back of better refining margins. The growth was constrained by inventory effect due to oil price decline. EBITDA of retail business was negative and the fourth quarter, while our power generation business showed significant seasonal growth. Refining margins at our European refineries contracted following the benchmark margins and the decrease in EBITDA was even more substantial due to inventory effect. At the corporate center EBITDA was mainly affected by cost accrued under the new long-term incentive programs. Our profit dynamics as compared to 2017 was mainly impacted by the following three factors

[Operator:]

[Operator instructions]

[Karen Kostanian:]

Good afternoon. Karen Kostanian from Bank of America asking the question in Russian. Thank you for the presentation and congratulations on the outstanding performance. I have a question about your strategy. In March last year you mentioned that each dollar on the price, on top of $50 per barrel targeting a budget will be split between buyback program on the hand and your newer capital construction projects. You may have since very successful of buyback implementation but the CapEx is still below the expected target. So my question, when shall we expect an increase of your CapEx and generally speaking which projects will have that CapEx allocated in case that happens? Thank you.

[Pavel Zhdanov:]

Thank you for the question. Well, actually, we expect to keeping going with what we mentioned last year. We still maintain the focus on Upstream segment in Russia. That will be the focus of our investments. And we'll be looking at mature field with a large resource base that has seen lower investment than expected in the recent years. We are building up recent wells ready for drilling. We're getting all the required permits and working on the relevant documentation as you see from Azat’s part of the presentation and of course. And we're fast tracking our efforts on the profit-based income -- profit-based tax. And then again, we're constrained to a certain degree by the limitations OPEC+ decisions. That really slows down the efforts we would like to implement. And nevertheless 2019 plan provides for certain measures which we will be running in the course of the year. Thank you.

[Igor Kuzmin:]

Good afternoon. Igor Kuzmin from Morgan Stanley asking the question. I would like to clarify whether there are any samples or particular flags to understand how long the buyback program would last, any indicator?

[Alexander Matytsyn:]

As I mentioned at previous call, we intend to conclude the current buyback program in the course of 2019 you can see the progress because we report on that on a weekly basis. And then the capital distribution policy provides that the buyback is an instrument to distribute the free cash flow from the positive pricing environment. Hence, once this program has been completed, we intend to announce another one. The details of that other program are not disclosed as yet because we will be considering tomorrow the cancellation of the shares currently bought back already this will be coming in launch packages. We were looking at the tax and legal implications. Thank you.

[Operator:]

The next question comes from the English line from Ron Smith from Citi. Please go ahead.

[Ronald Smith:]

Yes. Good afternoon, thank you very much. You just answered a couple of my questions regarding the buyback program which I think has a lot of interest among [clients]. I will turn to something else back to production. Could you give me an estimate please of your current idle capacity? In other words if it wasn't for the OPEC+ constraints, how much more oil could LUKOIL be producing right now? Thank you.

[Azat Shamsuarov:]

Well responding to your question, currently, we don't have any economic stimulus to maintain spare capacities and significant roll-in. So that would be about 1,000 tonnes per day of extra production that we can add. Recall that it’s balanced approach -- balanced too with regards to OPEC+ decisions.

[Unidentified Analyst:]

Good afternoon and thank you for your presentation. I have two questions. One quick question, maybe I have missed that. What's the effective IFRS 16 transition that you expect? Can you please repeat that? And one other question which is more exciting. Can you provide more color to the changes in the dividend policy that expect? Currently you have a fixed number of dividend for the previous year or 25% IFRS net income. I understand that the first element of that policy is going to change looking forward. Can you please provide more color as to those changes if possible?

[Pavel Zhdanov:]

Yes. That's 40 -- RUB140 billion to RUB200 billion that's the IFRS 16 transition. As to the other question of yours, we're adding another principal on top of the two that you have just mentioned. You’re going to hear that disclosed in due course. And that is going to reflect the cancellation of shares following the buyback program. So the dividend volume will be targeted for the shares currently, circulation is free-float. So that will be adjusted by at least inflation rate. So once the cancellation of share occurs, the dividend per share will be growing at a faster pace to reflect that cancellation.

[Operator:]

The next question comes from Ildar Davletshin.

[Ildar Davletshin:]

Good afternoon and thank you for an opportunity to ask a question. I have two questions on Uzbekistan. You have made a number of disclosures now, and my question is the return on your investment into projects in Uzbekistan, what's the current situation and how much you expect to get -- how much cash flow do you expect to get from Uzbekistan in 2019? And also your sales in the domestic market in Uzbekistan, what currency do you get now payments in and what’s the FX that’s attached? And my other question on the buyback program, just to clarifying. Liquidity may not be too significant while your buying back activity is rather significant. The price may well move up rather fast disregarding other macro metrics, let's say the oil price remains flat and the ruble remains flat and the macro environment remains as is and the price -- the share price moves up significantly. How would you consider that as part of your buyback procedure? Do you have an understanding -- do you price in the share price when deciding on the buyback?

[Azat Shamsuarov:]

We do have certain debt as receivables, so that’s reasoned and that currently stands at $600 million. When considering domestic gas sales to offset that debt, we will be getting payments in dollars. So we will be compensated for the deliveries to the domestic market in US dollars. That’s one thing. And another thing the investments incurred stands at US$8 billion, of which we have seen a return of about US$4 billion. Thus, we have no doubt that the settlement agreement signed by the Ministry of Finance of Uzbekistan will be carried out timely and informed.

[Pavel Zhdanov:]

On the buyback program, if you'd like to understand the formula then we don't disclose that and we didn't comment on the formula. We'll be disclosing the buyback performance weekly as we have been doing so far, you are going to see the results.

[Operator:]

The next question comes from the Russian line of Alex from Renaissance Capital. Please go ahead.

[Alexander Burgansky:]

Good afternoon, Alexander Burgansky, Renaissance Capital. Thank you for the presentation and the opportunity to ask a question. My first question, first, you have reported significant cash flow, could you share which part of that was contributed by the oil price that was higher than your budget target as $50 per barrel? And my other question could you provide again more color on your plans to grow production in 2019 for both oil and gas, considering gas specifically? In Q4 you reported Uzbekistan production of 3.8 billion cubic meters. In annual terms that would be more than 15 billion this year. And if I read your presentation correctly, the slide suggests that you're going to produce 14.5 bcm per annum at production peak. So can you comment on your Q4 production volumes and how that is aligned with your production plans in Uzbekistan and overall LUKOIL business for the full year? Thank you.

[Pavel Zhdanov:]

Well, the extra free cash flow stands at US$5.7 billion. That's the extra free cash flow on top of the $50 per barrel price. Regarding your other question, in terms of oil production, well, we'll see where we stand depending on OPEC+ decisions, that would be about 82 million tones, plus year-on-year the remaining growth will come from gas. In Uzbekistan, the difference of 14.5 bcm, the 14.5 bcm is commodity gas and whatever comes on top is technical production.

[Operator:]

The next question comes from the Russian line from Martin calling from Sberbank. Please go ahead.

[Unidentified Analyst:]

Good afternoon, thank you for the presentation. Congratulation on outstanding performance as well. I have a follow-up question Azat on the buyback program. You have mentioned that that's -- you have mentioned that first you need to decide on the cancellation of shares that have been bought back, already started the existing program and afterwards you may decide on further buyback program. Given that you have bought more than 1.5 billion worth of shares and given that every week you’re buying about -- actually more than $100 million worth of shares, it seems that the decision for the new buyback program will be -- the decision for the cancellation will be at around the Annual Shareholders Meeting and you'll be discussing new buyback program in the third quarter. Will this assumption be correct?

[Azat Shamsuarov:]

Yes.

[Operator:]

The next question comes from the English line from the line of Henri Patricot from UBS. Please go ahead.

[Henri Patricot:]

I have two questions on the downstream please. The first one, can you provide some details around the amounts enrolled for the several petrochemical projects, so how much CapEx and is it on the top of the RUB500 billion that you mentioned potentially. And secondly on refining. You mentioned in the slide that you expect to reduce the fuel oil production by 2020 you need to quite substantially through optimizing. Can you explain a little bit on what you’re going to do to achieve these changes without the program? Thank you.

[Vadim Vorobiev:]

Responding to downstream investment products there, RUB500 billion is for the full group, 20% of that will be allocated to the downstream segment. In ruble terms that would be RUB100 billion, of which 80% will be allocated in Russia and 20% beyond Russia and the close of 2019 and further on we expect to have about the same profile.

[Alexander Palivoda:]

As far as we understand, there is no further question on the line currently. I would like to thank everyone for your participation, for your involvement on the call and webcast. Thank you for your interest.

[Operator:]

Ladies and gentlemen, thank you for joining today's conference. Presentation and transcript will be available on LUKOIL website in Financial Results section shortly. You may now replace your handsets.