Tashkent, Uzbekistan (UzDaily.com) -- Fitch Ratings has affirmed JSC Uzbekneftegaz’s (UNG) Long-Term Issuer Default Rating (IDR) at ‘BB-’ with a Stable Outlook.

UNG’s rating is equalised with that of its parent Uzbekistan (BB-/Stable). UNG is a fully state-owned integrated natural gas and liquid hydrocarbons producer with strong links with the government.

UNG’s ‘b+’ Standalone Credit Profile (SCP) is under pressure from higher-than-previously-expected leverage and tight standalone liquidity. However, we expect its leverage to improve as its gas-to-liquids (GTL) plant ramps up and the company to be able to manage its refinancing in 2023 and beyond. The ‘b+’ SCP also reflects UNG’s medium-scale production, integration into downstream activities, a low-cost position and limitations of the general operating environment in Uzbekistan.

UNG’s USD700 million senior unsecured notes (BB-/RR4) are rated in line with the IDR and using a generic approach for ‘BB’ category issuers, which reflects the instrument ranking in the capital structure, in accordance with our Corporates Recovery Ratings and Instrument Ratings Criteria.

‘Very Strong’ Support: UNG’s rating is equalised with Uzbekistan’s due to strong ties under our Government-Related Entities (GRE) Rating Criteria. We view the status, ownership and control factor as ‘Strong’ as the state is UNG’s sole ordinary shareholder though it may sell around a quarter of the company.

We view the support record as ‘Very Strong’ because around 70% of its consolidated debt was guaranteed by the state at end-2021. Other forms of support are the conversion into equity of UNG’s USD1.7 billion debt to the sovereign wealth fund of Uzbekistan and dividends payable in 2020, lowered taxes, and liberalised oil product prices charged by UNG.

‘Very Strong’ Socio-Political Impact: We view the socio-political impact of UNG’s default as ‘Very Strong’ because the company is focused on providing gas and liquid hydrocarbons to domestic utilities, industry and the private sector, and does not export gas. Uzbekistan is reliant on gas for power generation, heating and as automobile fuel. UNG is one of the largest companies and employers in the country. We assess financial implications of its default as ‘Strong’ as UNG is a large borrower, hence deemed a proxy issuer for the government, but UNG’s debt is substantially smaller than that of the government.

SCP Under Pressure: UNG’s ‘b+’ SCP reflects the company’s medium scale, regulated gas prices, very low upstream costs and integration into chemicals and refining, which are offset by high leverage, tight liquidity and a weak domestic operating environment. SCP is also under pressure, primarily from higher-than-previously expected leverage, mostly in view of the company’s delayed start-up of its GTL plant. The first line of the plant, which should significantly boost UNG’s earnings, has now ramped up and will start to materially contribute to UNG’s earnings from 2H22.

Gradually Falling Leverage: We expect UNG’s funds from operations (FFO) net leverage to remain above our 4.5x negative sensitivity for the SCP in 2022 after peaking at 5.4x in 2021. However, it should decline to 4.5x by 2023, and remain below that level in 2024-2026. Deleveraging will be driven by completing the ramp-up in production of its GTL project in 2022-2023 and by commissioning the Shurtan gas chemical complex soon. We expect that the two projects will increase UNG’s EBITDA by around 50%. Further delays of the downstream projects and inability to reduce net leverage to 4.5x or below could be negative for the company’s SCP.

Legacy Guarantees: UNG had UZS13 trillion of guarantees at end-2021, mainly issued to its former subsidiary JSC Uztransgaz for its gas purchases. We view these liabilities as part of the legacy from the previous group’s structure. UNG transferred its stake in Uztransgaz to the state in 2019. According to the company, any upcoming liabilities from Uztransgaz will be covered with state support without recourse to UNG. We do not add these guaranteed debt to UNG’s total debt, but if the guarantees were included, they would lift FFO net leverage by around 1.3x in 2022.

Liberalisation Supports Revenue: UNG has benefited from the 2020 abolition of regulated prices for condensate, oil and oil products through higher revenue. The Uzbek government plans to liberalise prices for natural gas, UNG’s main product, and liquefied petroleum gas (LPG) in 2023-2024, which may boost UNG’s profitability if the collectability of receivables does not deteriorate. We do not incorporate higher gas and LPG prices into our rating case due to uncertain reform timing.

Medium Scale: UNG’s consolidated hydrocarbon output was 569 thousand barrels of oil equivalent per day (kboe/d) in 2021, comparable with that of Wintershall Dea AG (BBB/Stable). However, its per-barrel profitability is weak in view of regulated domestic gas prices. Raw natural gas accounted for 99% of UNG’s production, of which around 30kboe/d of condensate and LPG was extracted. Its PRMS 1P reserve life was 12 years at end-2020, which we view as more than adequate. UNG’s low regulated realised natural gas prices were counterbalanced by its downstream integration and low upstream costs, resulting in 2021 FFO of USD620 million.

The strength of UNG’s ties with the government under Fitch’s GRE Rating Criteria is comparable with QatarEnergy’s (AA-/Stable), and is slightly greater than OQ S.A.O.C.’s (OQ; BB/Stable) and JSC National Company KazMunayGas’s (KMG; BBB-/Stable). UNG’s ‘b+’ SCP is on a par with State Oil Company of the Azerbaijan Republic’s (SOCAR; BB+/Stable).

Fitch assesses all five companies under its GRE Rating Criteria. UNG’s, OQ’s and SOCAR’s ratings are equalised with their respective sovereigns, while NC KMG is one notch down from the sovereign’s rating. The rating of QatarEnergy is constrained by its respective sovereign.