Description

Lukoil makes for an interesting investment. Lukoil is a large E&P Business.  The company has operations in 30 countries, but 90%+ of the revenue/earnings are generated in Russia. Importantly, costs tend to be in rubles and revenue are in dollars.  

Lukoil is a behemoth. Among privately owned companies, Lukoil is the largest in terms of proven oil reserves, and 3^rd largest by production. Lukoil is responsible for:  .8% of the world’s proved oil reserves, 2.1% of oil production; .4% of world gas reserves and .7% of world gas production; and 1.7% of world refining capacity.  The company was formed in 1991 by the former soviet deputy minister of oil production, Vagit Alekperov, who continues to control the company.

Lukoil’s assets are made up of old soviet fields in western Siberia. Though not a strong grower, production is expected to grow 6-7% (cumulatively) over the next 2 years.

Recently the Russian government has reduced the tax burden on unconventional oil production, which should allow for economically rational growth at Lukoil.  

The valuation is unambiguously cheap – at 4.5x earnings, 2.5x EV/EBOTDA and a 5.6% dividend yield.

The balance sheet is strong with net debt equal to .66x EBITDA and 14% of equity.  

Lukoil is not only cheap on an absolute basis, but it trades at 60-70%+ discount to US majors and roughly half the multiple of state controlled oil companies in South America and Asia.

You might think the discount is warranted due to poor treatment of outside shareholders – if so you will be surprised to learn:

Lukoil has a history of shareholder responsible actions – namely increasing the dividend by 16% annual since 2004 and committing publicly to growing the dividend by 15% annual over the next few years.

Lukoil was the 1^st Russian company to get a full secondary listing in the UK. The company regularly communicates with the street and produces investor material that clearly conveys important financial and operational results.

Perhaps more importantly – the company’s controlling shareholder (Vagit Alekperov) and management have been using their own funds to purchase shares in the open market, over $1bn in the past year. Least you think they are done buying, Alekperov has pledged to use all of his dividends (approx. $600mm) to buy stock over the next year. 

In addition, the company has commenced a $2.5bn buyback of shares.

Lukoil has a strong balance sheet, a payout ratio below Rosneft and a management team that is behaving in a manner that suggests they are motivated to improve the share price.  So one can reasonably expect the dividend to increase overtime.

It’s cheap, the management is behaving as you’d like – so at this point if you aren’t excited it must be Russia, which makes the investment less than safe, but:

“I think if it’s cheap enough, you can afford more country risk or regulatory risk. It’s not complicated” – Charlie Munger

Catalyst