Fields shut for first time in nearly fifty years of operation
According to Bloomberg and the "Shengli Daily", Sinopec will be shutting four selectedfields within the Shengli oil complex. Compared to nearly 70 oil fields in operation atthe Shengli complex, shutting down four may not seem significant. However, this is thefirst time in Shengli's nearly 50 years of operation that any of its oil fields has been shut(Shengli makes up more than half of Sinopec's oil output). Sinopec appears willing tocut costs where it can, perhaps a product of SOE reform. We think Sinopec willconsider shutting more oil fields if oil prices remain weak.
We expect oil production decline to accelerate in 2016
We do not have details on the level of production affected but the productivity of thefour fields is likely small. The shutting of the fields will save Sinopec about Rmb200mn,according to the report. This is less than 1% of 16E net profit, but we believe that morefields will be shut if oil prices stay low. The report said Shengli lost Rmb2.9bn lastmonth alone. Sinopec's domestic oil production fell by just more than 4% in 2015, andwe believe that the production decline will accelerate this year under our forecast forlower oil prices. Also, we expect a 15-20% cut to E&P capex this year.
Downstream story still underappreciated by the market
Sinopec shutting oil fields adds to evidence that OPEC's strategy to claw back marketshare is slowly working. At the current low oil prices, many non-OPEC projects will notbe candidates for reinvestment. In any case, we believe Sinopec's upstream woes arewell flagged by the market, but the market is significantly undervaluing Sinopec'sdownstream business. In the marketing business, non-fuel sales hold solid growthpotential (please see our Evidence Lab report), petrochemicals are facing an extendedup-cycle (please see our Asia chemicals report), and refining operations are stable. Webelieve Sinopec's balance sheet looks better than ever before, dividend pay-out ratiosare higher, and corporate governance and transparency have significantly improved.
Valuation: Price target HK$7.6/sh
Our price target is set at a 25% discount to our NAV estimate (downstream segmentspegged to peer multiples of 6-10x EV/EBITDA, E&P at US$75/bbl long-term Brent). Theoil E&P business accounts for just 20-25% of our estimated total enterprise value.