Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics September 2016

Oil price volatility has grown considerably over recent years. The uncertainty makes it complicated for companies to establish long-term plans. Forecasted weighted average* oil price USD/barrel

140 120 100 80 60 40 20 0 2011

2012

2013

2014

2015

Deloitte, 30 June 2016

2016

2017F

2018F

2019F

2020F

Worldbank, 26 July 2016

Source: Deloitte and Worldbank forecasts * The weighted average price is a combination of the prices for Brent and WTI crude oil taken with equal weights

High volatility and controversial trends

• The considerable reduction in oil prices and volatility on the oil market in 2014-2015 forced analysts to review short-term oil price forecasts regularly. • As of the beginning of the second half of 2016, most experts agree that oil price recovery is going to be slow.

© 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

2

Despite the downward trend in the commodity markets, Russian companies have set a drilling record.

Average annual oil price and drilling metreage

Neutral to positive expectations of market participants RUB/barrel

Million m

24

3500 3000

19

2500 2000

14

1500 1000

9

500

• 2015 saw a continued disruption in the correlation between oil prices and drilling metreage: despite the sharp decrease in oil prices, metreage increased by over 10 percent. • The increase in metreage may have been caused by market expectations. According to Deloitte’s 2016 Russian Oil and Gas Outlook Survey, based on interviews with executives from Russian enterprises, 61 percent of experts expect a rise in oil prices in 2016. • Despite the neutral to positive expectations, in order to relieve the impact of the current decline in oil prices, the key market players aim to reduce operating costs and improve operating efficiency.

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

Oil price (weighted average)

Metreage

Capital investments plans for 2016, billion RUB

Capital investment plans for 2016, billion RUB

+30%

2016 -9%

2015 -9%

780 600

607

550

396

360

+60 %

-9% 92.9

85

61.7

99

• According to the 2016 Russian Oil and Gas Outlook Survey, 55 percent of experts believe that capital flow into the Russian oil and gas sector will not decline for, at least, the next five years. • The growth of uncertainty on the market has become one of the reasons why there is no trend towards changing the amount of capital investments in 2016 among the largest vertically integrated oil companies (VIOC). At the same time, the majority of market leaders are not planning to cut capital investments abruptly, which confirms the absence of exceedingly negative expectations. • According to VIOC representatives, upstream will be the main focus for capital investments. Funds will be allocated towards maintaining and expanding exploration and production.

Source: Company data; the amount of investment includes foreign assets. © 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

3

Despite the existing uncertainty on the market, according to 2016 results, production and exploratory drilling metreage are expected to grow.

Production drilling, million m +13%

+12%

+1% 24.5

1.7 2.9 3.6 4.9

21.9 19.4

2.7 3.8 4.1

5.8

5.0

2013

2014

Bashneft Tatneft

1.6 2.9

Slavneft

2.8

Gazprom Neft

4.3 6.7 2015

Surgutneftegaz Rosneft

2016*

0.87**

0.82

0.82

0.11

0.08

0.20

0.23

0.22

0.20

0.15

0.17

0.11

2013

2014

2015

0.74 0.11

0.17

Lukoil 12.0

+18%

Other

Russneft

2.3

1st half-year

20.8

-10%

0.21

1st half-year

-7%

Exploration drilling, million m

0.50

2016*

Source: “Oil and Gas Vertical” magazine (CDU TEK), company data,

Source: “Oil and Gas Vertical” magazine (CDU TEK), company data,

*Deloitte forecasts

*Deloitte forecasts

• In 2015, the total production drilling market grew by 13 percent.

• In 2015, the exploratory drilling market volumes decreased by 10 percent, which was due to the uncertainty on the market and the suspension of participation in expensive exploration projects.

• Most key players expanded drilling volumes having implemented their annual plans for production drilling. • According to the representatives of most companies and actual Q1 data, companies are not planning to reduce the volumes of production drilling in 2016. • Rosneft stands out among the key players as it is planning to boost the volumes of production drilling by no less than 30 percent.

• At the same time, according to the results of the first half-year of 2016, exploratory drilling grew by 11.2 percent as compared to the same period last year. • Hence, in 2016 exploratory drilling metreage is expected to grow, and, by the end of the year, metreage is predicted to be 18 percent higher than in 2015. ** The forecast has been reviewed due to the positive trends demonstrated by the companies at the end of the first half-year of 2016.

© 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

4

Horizontal drilling remains a key driver for metreage growth in 2015; directional drilling is growing more slowly.

Directional drilling, million m -16%

Horizontal drilling, million m +33%

+4%

+27%

16.6

7.4

1.5 14.0 2.4 2.7

-39% +4% -17%

1.3 1.5

2.8

-17% -34%

14.6

Other

1.7

Bashneft Russneft

1.2 1.9

+3%

4.6

3.9 3.8 -23%

4.4 2013

+32%

3.4 2014

Source: “Oil and Gas Vertical” magazine (CDU TEK)

0.6

4.5

4.3 0.3

+23%

0.8

+176%

Gazprom Neft

0.5

+11%

Lukoil

0.9

Tatneft Slavneft

Surgutneftegaz Rosneft

2015

0.4

-16% +16%

5.8 0.4

+5%

0.9

+31%

1.6

-7%

0.9

1.0

+38%

0.4

0.3

+40%

1.3

1.4

1.6

2013

2014

1.0

2.2

2015

Source: “Oil and Gas Vertical” magazine (CDU TEK)

• The 2015 market continued the trend observed in 2014: horizontal drilling metreage increased considerably as compared to the previous year—by 27 percent. It is horizontal drilling that currently drives the metreage growth in the Russian Federation. Most key players continued to increase metreage in horizontal drilling. According to the year’s results, metreage in horizontal drilling exceeded metreage in directional drilling at Gazprom Neft and Slavneft. • Metreage in directional drilling grew by 4 percent in 2015, which was not as considerable as the growth in horizontal drilling metreage. The major boost in directional drilling volumes was due to increased drilling by Rosneft (by 32 percent) as well as by small and medium-sized oil companies. At the same time, Lukoil and Gazprom Neft have reduced directional drilling metreage considerably. © 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

5

Western Siberia remains a leader in drilling volumes; however, the share of other regions has grown considerably over 2014-2015.

Metreage distribution in production drilling 20.8 million m 5.8% 10.0%

19.4 million m 8.7% 12.2%

Metreage distribution in exploratory drilling

21.9 million m 7.9% 14.2%

0.82 million m 10.0%

Other regions

24.5%

0.82 million m 15.9%

17.4%

27.8%

30.4%

56.3%

52.2%

2014

2015

Volga District 84.2%

2013

79.1%

2014

3.8% 3.4%

4.5%

77.9%

Far East

1.9%

Caucasus and Southern Federal District

5.0%

Timan-Pechora Eastern Siberia

2014

2015

Source: “Oil and Gas Vertical” magazine (CDU TEK), Deloitte analysis

65.5%

2013

2015

1.7% 2013

Western Siberia

0.74 million m

2.7% 5.3% 3.4% 2013

6.3%

13.5%

5.8% 2014

2015

Source: “Oil and Gas Vertical” magazine (CDU TEK), Deloitte analysis

• Western Siberia is still Russia’s main oil region, accounting for 78 percent of metreage in production drilling and 52 percent in exploratory drilling in Russia in 2015. However, since 2013, the share of Western Siberia in the total metreage across the abovementioned regions has decreased by 6 and 13 percentage points, respectively. • Stable and fast growth in drilling volumes has been continuously observed in Eastern Siberia: metreage for 2013-2015 is three times higher, and comprised 5 percent of production drilling and 13.5 percent of exploratory drilling in Russia in 2015. • Drilling volumes in the Far East continue to change considerably year-on-year: while in 2015, the share of production drilling increased by 0.7 percentage points, a fall by 1.4 percentage points was observed in exploratory drilling. © 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

6

Supply and demand on the drilling market has not seen significant changes; however, EDC’s share has been decreasing, and the number of medium and small suppliers is growing. Supply on the drilling market (based on metreage)

Demand on the drilling market (based on metreage)

8%

28%

33%

Other

6%

KAToil-Drilling

Tagras 15%

21% 20%

6%

14%

Targin 14%

11%

13% 13%

20%

20%

21%

2014

21%

EDC

30%

25%

2015

Source: Company data

Bashneft Tatneft

Lukoil

Gazprom Neft

Surgutneftegaz 28%

Russneft

Slavneft

Eriell RN-Drilling

Other

Surgutneftegaz Rosneft

2014

2015

Source: “Oil and Gas Vertical” magazine (CDU TEK)

High demand concentration and considerable segmentation of suppliers • The four largest Russian oil companies continue to account for most of the drilling demand on the market–more than 75 percent. • EDC remains the only large independent supplier on the drilling market; however, its market share shrank considerably over 2015–from 28 to 21 percent.

• Despite market expectations, Rosneft has not demonstrated significant growth in the use of its own drilling capabilities. © 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

7

The increase in the volumes of capital investment in the construction of production wells is due to the desire to sustain production levels at mature oil deposits. Capital investment in the construction of production wells, billion RUB +11%

+15%

669.8 581.9 523.4

41.5 91.7

344.3

36.3 51.0

70.6

Timan-Pechora

Eastern Siberia

435.3

Volga District

Western Siberia

2013

2014

Source: “Oil and Gas Vertical” magazine (CDU TEK)

2015

+15%

669.8

Caucasus and Southern Federal District

124.1

119.9

370.4

+11%

Far East

581.9 523.4

47.5

61.7

33.0 66.6

28.3 62.8 104.5

74.8 31.6 77.5 109.8

136.1 103.8

79.0

84.6

164.2

178.5

2013

2014

Other Bashneft Russneft Tatneft Slavneft Gazprom Neft Lukoil

227.5

Surgutneftegaz Rosneft

2015

Source: “Oil and Gas Vertical” magazine (CDU TEK)

• Western Siberia accounted for the majority of capital investment in 2015. Capital investment in Russia’s main oil region increased by 17 percent as compared to 2014. • Capital investment in Eastern Siberia has increased by 70 percent since 2013, which is due to increased production in the region. • Most key players on the market have increased their capital investments as compared to 2014, which is due to the depletion of major highlyproductive “old” fields (experiencing the necessity of increasing their oil recovery and replacing worn out equipment). • Most companies claim that they are not planning to reduce capital investment in the construction of production wells in 2016.

© 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

8

Due to uncertainty on the market, companies are reducing capital investment in the construction of exploration wells.

Capital investment in the construction of exploration wells, billion RUB +43%

-1% 76.3 8.1

53.2

11.9

75.7 3.3 17.1

Timan-Pechora

13.9

19.9

29.4

32.3

33.3

2014

Source: “Oil and Gas Vertical” magazine (CDU TEK)

• • • • •

2015

16.4

3.5

22.3

75.7

Other

10.9

Bashneft

Russneft 6.0

Tatneft

17.0

Slavneft Gazprom Neft

12.4

20.3

9.8 Western Siberia

2013

53.2 6.8

Eastern Siberia Volga District

-1% 76.3 4.1

Caucasus and Southern Federal District

3.9 18.6

+43%

Far East

11.5 2013

20.6 2014

Lukoil Surgutneftegaz

14.1

Rosneft

2015

Source: “Oil and Gas Vertical” magazine (CDU TEK)

As compared to the considerable increase in capital investment in the construction of exploration wells in 2014, 2015 saw a small fall. Capital investment increased by 16 percent in Eastern and Western Siberia, but fell considerably in the Timan-Pechora Region. Pressured by the uncertainty on the market, key players have reduced their capital investment in the construction of exploration wells. Surgutneftegaz is one of the few companies on the market that has expanded capital investment, having increased it more than 1.5 times. Most companies claim not to be planning further reductions in capital investment in the construction of exploration wells in 2016.

© 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

9

The rise in expenses for well maintenance and workover is due to the desire to increase oil recovery at existing oil deposits.

Well maintenance costs, billion RUB -14%

3.2 7.7 9.1

-6%

+11%

45.7 8.2

Workover costs, billion RUB

43.9 39.4 2.1

130.9

Bashneft

16.1

Tatneft

Surgutneftegaz

28.8

16.3 30.8

Lukoil Rosneft

2015

109.1 6.6

Gazprom Neft

8.5

2014

17.5

Slavneft

8.4

10.6

115.9

Other Russneft

3.8

12.2

+20%

2016*

37.0

40.4

2014

2015

2016*

Source: Source:CDU TEK, * Deloitte predictions

Source: Source:CDU TEK, * Deloitte predictions

• In 2015, total well maintenance costs were reduced by 14 percent. • Most key players, except Surgutneftegaz and Tatneft, reduced their investment in maintenance. • Q1 2016 witnessed a 10 percent rise in well maintenance costs as compared to Q1 2015. • Therefore, in 2016 the decrease in well maintenance costs will probably slow down and, by the end of the year, total well maintenance costs may go back to their 2014 level.

• In 2015, the total amount of companies’ investment in workover decreased by over 6 percent. • Despite the decrease in total costs, almost all key players increased their investment in workover. • Q1 2016 saw a significant growth in investment in workover both by large and small companies. • Workover costs may rise by 20 percent in 2016 as compared to the previous year.

© 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

10

Western Siberia is losing its share in well maintenance and workover costs. In 2015, investment in maintenance in the Volga District and Eastern Siberia grew considerably. Well maintenance distribution by region RUB 45. 7 billion 7.3%

Workover distribution by region RUB 115. 9 billion

RUB 39.4 billion 7.2%

34.7%

44.0%

4.9%

Other regions

51.7%

Volga District 58.1%

48.8%

2015

1.4% 1.1%

1.3% 0.9%

1.1% 2014 Source: CDU TEK, * Deloitte analysis

8.0%

54.4%

Western Siberia

2014

3.7%

RUB 109.1 billion

Far East

43.4%

37.7%

2014

2015

Caucasus and Souther Federal District

3.2%

Timan-Pechora

0.5%

1.8%

Eastern Siberia

2.8%

2015

2014

2.6%

3.2% 2015

Source: CDU TEK, * Deloitte analysis

• In 2015, the distribution by region on the maintenance market changed considerably. • Western Siberia, which is the leader in well maintenance costs, lost 9 percentage points of its share to the Volga District and Eastern Siberia in 2015. The distribution of other regions by aggregate well maintenance costs changed insignificantly. • The distribution of regions by costs on workover also underwent changes over the past year. The Volga District’s share grew by 3 percentage points, the Far East–by more than five times, whereas Western Siberia’s share fell by over 6 percentage points. • The shares of the Caucasus, Timan-Pechora and Eastern Siberia in the investment in workover increased insignificantly.

© 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

11

In 2015, the government and investors reduced financing of geophysical surveys. Offshore projects are seeing a cost decrease.

Market share of geophysical surveys in the mining and oil and gas industries -11%

RUB 81 billion 14.3 6.1

RUB 72 billion 4.1

5.2

Other sources of finance Federal budget

60.4

62.8

2014

2015

Equity capital

Geophysical survey costs fall • In 2015, the market share of geophysical services (Geographic Information System (GIS) and seismic survey) amounted to RUB 72.06 billion, which is 11 percent less as compared to 2014. • Russian and foreign investors have considerably reduced financing volumes. Economic sanctions are still limiting capital inflow. • Reduction of governmental expenses has resulted from the anticipating reduction of the federal budget. This reduction was caused by budgetsaving measures. • In 2016, investments will probably continue to decrease; however, stabilisation is expected in 2017.

Source: Federal Agency for Mineral Resources, Deloitte analysis

Territorial structure of the exploration works market in the oil and gas industry -32%

RUB 250 billion 97.8

-77% -4%

RUB 170 billion 23.8

151.8

146.0

2014

2015

Source: Federal Agency for Mineral Resources, Deloitte analysis © 2016 Deloitte & Touche Regional Consulting Services Limited

Offshore exploration works Onshore exploration works

Offshore exploration works reduction • In 2015, costs for exploration works saw a decrease. Costs for offshore works were reduced by 77 percent, which is considered the most dramatic reduction as compared to 2014. • A high offshore production cost, which is often unjustified as oil prices are low, was the main cause of offshore works reduction. • Additionally, a reduction of offshore exploration works occurred due to the postponement of drilling works on 10 of Rosneft’s large projects. The above was caused by the outflow of foreign partners from the country and by economic sanctions.

* Regional budgets of the Russian Federation, credits, funds received from Russian and foreign investors Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

12

In 2015, the seismic exploration market saw a significant slow down.

Seismic exploration 2D*, line km 28%

Seismic exploration 3D*, sq. km

-44%

-17%

143,000 line km

-22%

68,000 sq. km Другие

112,000 line km

Novatek

90.2

80,000 line km 73.1 42.4 6.2 34.4

2013

57,000 sq. km

Slavneft

33.3

2014

28.9

Surgutneftegaz

4.2 12.6

Gazprom Lukoil

13.3

10.0

7.8

22.4

10.9

2015

44,000 sq. km

Bashneft

Rosneft

Source: Federal Agency for Mineral Resources, Deloitte analysis

8.7

2013

6.5

21.9

20.0 6.1 7.2

2014

2015

Source: Federal Agency for Mineral Resources, Deloitte analysis

• In 2015, in terms of the fields of 2D and 3D seismic exploration, the market was down by 44 percent and 22 percent, respectively, on a year-to-year basis. • The 2D seismic exploration segment saw the most significant cost reduction. This is because companies are gradually shifting to 3D seismic exploration as a more informative option. • Rosneft is considered the key demand booster on the 2D seismic exploration market with a 28 percent market share in 2015. • Gasprom is considered the key demand booster on the 3D seismic exploration market with a 45 percent market share in 2015.

* - the market includes both oil and gas and mining industries © 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

13

Trends on the Russian oilfield services market Positive trends • Market stabilisation, “new reality” in the economy • Growth in drilling, well maintenance and workover volumes • Growth in demand for local services • Strong interest from Asian investors

Customer pressure • Requirements for continuous quality enhancement and cost optimisation

Oilfield services market • Key players continue to keep their market positions • Changes in the distribution of regional demand • Constant work to improve efficiency • Increasing use of internal sources of funding

Internal obstacles • Lack of skilled labour • Depreciation of production assets and fixed assets

Macroeconomic factors

• • • • •

Unstable oil prices Retention of the sanctions regime Rise in (foreign) equipment costs Complexities in using and acquiring new technologies and knowledge Difficulties in raising external capital

© 2016 Deloitte & Touche Regional Consulting Services Limited

Source: 2016 Oil and Gas Outlook Survey, company data, Deloitte analysis

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

14

Contact information Authors:

Elena Lazko

Steve Openshaw

CIS Oil and Gas Leader

Audit

+7 (495) 787 06 00 [email protected]

+7 (495) 580 96 00 [email protected]

Almaty Anthony Mahon Energy and Resources Leader, Caspian Region +7 (495) 580 96 00 [email protected]

Alexey Nesterenko

Kelly Allin

Senior Manager CIS Oil and Gas

Audit

+7 (495) 787 06 00 [email protected]

+7 (495) 580 96 00 [email protected]

Energy and Resources Leader, West Region +38 (044) 490 90 00 [email protected]

Gennady Kamyshnikov

Andrey Panin

CIS Energy and Resources Leader

Tax and Legal

+7 (495) 787 06 00 [email protected]

Kiev Artur Ohadzhanyan

+7 (495) 787 06 00 [email protected]

Baku Nuran Kerimov Energy and Resources Leader, Azerbaijan +994 (12) 404 12 00 [email protected]

Global Rajeev Chopra Energy and Resources Leader +44 775 78 53 50 [email protected] © 2016 Deloitte & Touche Regional Consulting Services Limited

Oilfield services market conditions and trends 2016 Segments: drilling, well maintenance and workover, and geophysics

15

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