Fitch: Tax a Key Risk for Russian Oil Sector if Prices Stay Low

The biggest risk to Russian oil companies is the potential for significant changes to a tax regime that previously insulated them from the impact of falling prices, Fitch Ratings says. Our base case is that oil prices will gradually rise and that a small recent increase in taxes will be reversed, but if oil prices remain weak, fiscal pressure on the sovereign could lead to taxes remaining higher or even being increased.

Russian oil companies' US dollar-denominated earnings have fallen more slowly than oil prices thanks to a combination of progressive taxes, which fall as a share of revenue as oil prices fall, and to the weakening rouble, which has pushed down opex and capex. As a result, for the first nine months of 2015 average upstream EBITDA per barrel fell 29% year-on-year, while Brent crude dropped 48%.

However, in October the government raised taxes for 2016 by going ahead with a planned increase in the mineral extraction tax while delaying an offsetting cut in export duty, which remains at 42%. The hike was minor compared to initial proposals, but it set an unfavourable precedent.

We believe current prices are unlikely to be sustained and our corporate forecasts therefore use a base case price of USD45/bbl in 2016 rising to USD60/bbl in 2018. In this scenario we expect export duty to be reset at 30% in 2017, although it could be cut more slowly.

If oil prices do not start to recover in 2016, then a further tax increase would become more likely. The impact of low prices and high taxes would be compounded by deteriorating liquidity in the sector due to Western sanctions. Companies would probably respond by slashing capex more aggressively. This could affect their medium-term production and weaken their operational profiles. The combination of worsening credit metrics and weaker operating profiles could put their credit profiles and ratings under pressure.