Novatek PAO

LSE:NVTK

Earnings Call Transcript 2021-Q2

[Operator]

Good day, and welcome to the NOVATEK's Second Quarter 2021 Financial Results Conference. Today's conference is being recorded. At this time, I would like to turn the conference over to Mark Gyetvay. Please go ahead, sir.

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Thank you very much. Ladies and gentlemen, shareholders and colleagues, good evening, and welcome to our Second Quarter and First Half 2021 Earnings Conference Call. We would like to thank everyone for participating in tonight's call. Before we begin with the specific conference call details, I would like to refer you to our disclaimer statement as is our normal practice.During this conference call, we may refer to forward-looking statements by using words such as plans, objectives, goals, strategies and other similar words, which are other than statements of historical facts. Actual results may differ materially from those implied by such forward-looking statements due to known and unknown risk and uncertainties, and reflect our views as the date of this presentation. We undertake no obligation to revise or publicly release the results of any revisions to these forward-looking statements in light of new information or future events.Please refer to our regulatory filings, including our annual review for the year ended the 31st of December 2020, as well as any of our earnings press releases and documents throughout the past year for more descriptions of the risks that may influence our results.With the recent concerns about the spike in COVID-19 and its variance, the company has instituted a series of additional monitoring and safety protocols at our main operating facilities. The group management remains diligent and will take necessary precautions to protect the safety and wellbeing of our employees, our contractors and their families against the spread of COVID-19 and minimize any disruptions to our operations. We will always place the health, well-being and safety of our employees above corporate profit. This represents our commitment to our valued employees.We achieved a very good set of financial and operational results in the second quarter and first half 2021 because of the strong commodity price environment and an extended cold winter season, as well as growth in sales volumes, both domestically and internationally. Natural gas and crude oil benchmarks recovered significantly from their pandemic driven lows and look poised to remain relatively strong throughout the remainder of 2021. Brent crude oil prices increased by 133% year-on-year from an average of about $30 per barrel to $69 per barrel, whereas benchmark natural gas prices like NBP and TTF increased more than fivefold, respectively. And from the prior-year-pandemic driven low to slightly higher than $9 per MMBtu.The Asian JKM price averaged slightly more than $10 per MMBtu or 370% higher year-on-year, whereas the Russian domestic gas tariff increased on average by 3% in the reporting period. Overall, it should be a very good financial reporting season for the oil and gas industry and a stark contrast to lows in earnings from the prior year, particularly with the noted recovery in prices and ever-presently in demand. We issued our 14th sustainability report on the 15th of July. That is available for online review or download on our corporate website. Today we will highlight some of the key messages from this report and introduce a new section to our quarterly conference calls, covering important topics of ESG and other relevant sustainability information, if available or relevant for the discussion.We realize that ESG is an important topic for oil corporates, and we at NOVATEK are committed to ensuring the highest level of transparency and governance in our reporting and communications with the investment community. Most significantly, we expanded our sustainability disclosures to include information on our permafrost management, waste management and methane emissions. And we included a series of new disclosures on scope 1 emissions by source, progress on achieving our 2030 targets and information on scope 3 emissions, to name a few.More than 100 new ESG metrics were introduced in the latest report. And we are 100% compliant with GRI Standards, and for the first time, SASB and TCFD reporting standards and recommendations. We also introduced disclosures on our contributions to the relevant United Nations Sustainable Development Goals that align our work activities along the 3 main areas of climate, nature and people, as well as disclosed in our priority UN SDGs that we feel will create long-term stakeholder value.Specifically, our group's greenhouse gas intensity ratio decreased by 1% to 295 kilograms of carbon per barrel of oil equivalent as compared to an industry average of 359 kilograms of carbon. Even though we increased our annual hydrocarbon production by 3.1% in 2020, which again demonstrated our low carbon position vis-à-vis our global oil and gas peers. During 2020 we reduced our Scope 1 GHG emissions by 19%, largely due to the increase in APG utilization as well as implementing a series of energy efficiency measures. Our scope 1 and scope 2 emissions, essentially direct commissions from the company's operation, which is scope 1 and indirect emissions from purchases, which is scope 2, represented just 5% of our total scope 1, 2 and 3 emissions. Therefore, 95% of the emissions we reported represented indirect emissions, scope 3, from the combustion and processing of products sold.Our actual methane emissions per unit of production exceeded our 2020 forecast by 5%, largely due to the launch of new hydrocarbon production at the North-Russkoye and the East-Tazovskoye fields, representing additional sources of emissions as well as not meeting our target for waste utilization by 8% due to the inability of contractors to access our sites during the COVID-19 restrictions. Climate change is not a new topic for us. We have discussed climate change landscape on past conference calls and throughout many of our investor meetings over the past several years.As the decarbonization question becomes more relevant for the investment community, it is important that we share our perspective on this evolving topic, especially considering the global focus of the upcoming November COP26 event in Glasgow and the recently released IEA's Net Zero Roadmap 2050 special report. The IEA's Net Zero 2050 roadmap received much media, political, industry and investor attention as the special report raised some serious questions on the challenges facing industry and society to achieve this [ lastly ] ambition of net 0 emissions, but it also opened some serious debates on the credibility of its content and the cost to society to make such a radical shift to renewables.After the issuance of this report, the IEA also made additional comments on rising carbon emissions over the next couple of years, potential tightness in the crude oil markets and rising coal consumption in power generation amongst other comments and analysis. We clearly understand the challenges ahead of us and the need to focus on the energy transition, but we don't fully subscribe to some of the main points raised in the special report. As a large gas producer, we do not see a future world where natural gas does not play a key role in the decarbonization process, or conversely, a world where 90% of the future energy -- electricity generation is powered by renewables, as noted in the report.Many of the key economic forecasts published today and used in the EIA -- IEA, excuse me, roadmap expect a doubling of GDP growth, increasing global population by 2 billion people, a significant move towards higher urbanization as well as different geographical growth patterns between developed and emerging economies by 2050. We believe it is unrealistic to think that all of these profound societal and industrial changes can incur without the use of fossil fuels, particularly natural gas.Considering these underlying forecasts, we would assume a growth in overall energy consumption, not a decline by 8%, as noted in the IEA's roadmap. We firmly believe that natural gas generally and LNG specifically will grow over this respective time frame. Therefore, investments in new oil and gas projects and infrastructure will be required to ensure hydrocarbons are available to meet the growing energy needs. Our pathway to decarbonizing society is through developing our hydrocarbon resources and bringing more natural gas to market. We will make the appropriate capital investments to successfully execute our long-term strategy to increase our LNG platform to up to 70 million tons per annum by 2030 and more beyond in an environmentally responsible manner. This represents our contribution to this quest, and we will focus our efforts on further decarbonizing our already low LNG value chain.The LNG market remained strong in the second quarter and throughout the first half of 2021 and will remain strong over the remaining 2021 with the tightness of gas supplies in the market. Slightly more than 195 million tons were delivered during the first 6 months of 2021, representing an increase in LNG volumes of approximately 9 million tons or 4.8%. Approximately 95 million tons were delivered in the second quarter, or 10.3% more than in the prior year. LNG cargoes were mostly delivered to the Asian Pacific region, where strong seasonal demand and price arbitrage premiums favored more LNG cargoes to be delivered to the Pacific Basin rather than to Europe.Both the Asian and European markets experienced strong growth in natural gas demand. But the decline in LNG imports to Europe were largely offset by increases in pipeline gas supplies. Moreover, a very dry season with low rainfall levels prompted a strong LNG import response from Brazil where hydro accounts for roughly 70% of Brazil's power generation.Overall, China led the growth in global LNG imports so far in 2021, with total volumes increasing by 27% to 40.1 million tons in the first half of 2021. The demand recovery in China following the fallout from the COVID pandemic has occurred faster than most forecasters expected. LNG imports in the second quarter 2021 aggregated 20.7 million tons or 23% higher than the second quarter of 2020. China's LNG imports outpaced Japan during the current period by 4.4 million tons and thus became the world's largest importer of LNG.LNG imports to China are expected to remain strong throughout 2021 and could reach up to approximately 80 million tons, which will exceed the 69.1 million tons of LNG imported for the full year 2020. The expected demand growth will support spare prices throughout the summer months with strong seasonal air condition use, gas injection into underground storage as well as overall economic and industrial growth in the country. There are also potential power shortages in 5 key providences over the course of the warmer summer month, which means that gas-fired power plants will be highly loaded, including gas volumes to balance peak demand.LNG imports in the developed Asian markets in Japan, South Korea and Taiwan during the second quarter 2021 aggregated approximately 31 million tons, represented a combined increase of about 10% as compared to the same period in 2020. Over the first half of 2021, their combined total was 72.6 million tons or an increase of 8.2%. This increase was largely driven by the stronger regional demand and some curtailments of coal-fired and nuclear power generation, especially in South Korea and Taiwan, as well as seasonal weather patterns shifting between colder and hotter temperatures in the region.Overall, the main Asian Pacific consumers imported 113.1 million tons in the first half 2021, or 14.6% higher than the comparative 2020 period, imports of 98.7 million tons. The region's hotter than average seasonal temperatures have boosted power demand for air condition, and this combined with higher thermal coal prices makes natural gas an attractive option in power generation. The Asia Pacific region, including India, is expected to remain relatively strong for the remainder of 2021. But the recent spikes in COVID and the virus' variance may have some negative impact on economic recovery in the broader region.Natural gas demand in the EU also remained relatively strong throughout the first half of 2021, aggregating 194 billion cubic meters, driven by colder temperatures in the first quarter and into the parts of the second quarter, particularly April and May, as well as declines in both nuclear power output and wind power generation.LNG imports in the second quarter totaled 22 million tons or 9% lower than the second quarter 2020. For comparative purposes, LNG imports in the first quarter 2021 decreased by 27% as compared to the prior year. The overall LNG imports during the first half of 2021 aggregated 42 million tons, representing a year-on-year decline of roughly 19%. The declines in LNG imports were offset by pipeline gas imports during the first half of 2021, and totaled 163 billion cubic meters, mainly due to increases in Russian and Algerian supplies which compensated declines for Norwegian pipeline deliveries due to field maintenance in June.As a liquid market, the EU can adequately balance the region's supply and demand requirements by importing both LNG and pipeline gas to compensate for decline in indigenous production. At the end of the reporting period, underground European gas storage was approximately 50 billion cubic meters or 47% full, which is significantly lower than the 5-year average of 60%, and well below the approximately 80% level in 2020 at the same time of year. More natural gas will need to be reinjected through the summer and early fall months to replenish gas storage levels to avoid potential shortages in the upcoming winter season. This, again will support stronger gas hub prices through the summer season, as well as higher forward curve prices for TTF and NBP.Yamal LNG dispatched 67 cargoes in the second quarter, of which 43 cargoes or 64% were sold under long-term contracts, and the remaining 24 cargoes or 36% under spot transactions. A total of 4.9 million tons were dispatched in the second quarter, which was marginally higher than the volumes dispatched quarter-on-quarter. During the reporting quarter Yamal produced slightly more than 4.8 million tons of LNG and roughly 258,000 tons of unstable gas condensate. Since inception, Yamal LNG has dispatched 757 cargoes for a total volume of 55.4 million tons, along with 107 shipments of stable gas condensate or 3.4 million tons.We have scheduled 40 cargo deliveries using the Northern Sea route, this upcoming navigational season, versus 34 deliveries in 2020, inclusive of 19 long-term cargoes and 21 redirections. As of today's call, a total of 7 cargoes have been shipped using the Northern Sea route, comprised of 3 long-term cargoes, 1 reinjected long-term cargo and 3 spot cargos. There were no ship-to-ship transfers at Murmansk in the reporting period as compared to 8 transfers in the first quarter 2021.In May we successfully completed a 72-hour test at 80% of the Train 4's liquefaction capacity. And we are now monitoring how the Arctic Cascade technology performs during the warmer summer period. We expect to reach 100% liquefaction capacity during the upcoming autumn season. But to really give an accurate assessment of the Train's operating results, we will need to study its performance over different climatic seasons. This will be monitored over the next 12 to 18 months. Overall, by the end of June, we have produced about 38,000 tons of LNG from Train 4.Cryogas-Vysotsk had another strong operating quarter as the facility operated at 111% capacity and produced 182,000 tons or 10% higher quarter-on-quarter. For the first half 2021, we produced 348,000 tons, representing a capacity utilization of 106% or 50% higher than the prior year period. NOVATEK Gas and Power offloaded 24 vessel cargoes for 106,000 tons, while NOVATEK Green Energy took 264 cargoes by truck or slightly less than 5,000 tons.During the first half of the year, NOVATEK Gas and Power secured 41 vessel cargoes for 185,000 tons, while NOVATEK Green Energy took 555 truck cargoes, equating to approximately 10,000 tons. The remaining LNG volumes during the second quarter and first half 2021 were sold under a third-party offtake agreement. Presently, NOVATEK Green Energy operates 14 LNG fueling stations with 10 in Germany and 4 in Poland. And we plan to construct and open another 28 LNG retail stations. In the second quarter we launched 2 new stations with 1 each in Germany and Poland. We marketed approximately 13,000 tons of LNG through our European retail stations during the first half of 2021 and sold 7,500 tons in the current period, which represented a 34% increase quarter-on-quarter. We made good progress at Arctic LNG 2 on all work streams without any delays or any disruptions.As of the 30th of June, about 44% of the total project's planned capital expenditures had already been financed. In May, we concluded the loan negotiations with a consortium of Russian banks for the U.S. dollar equivalent of $3.1 billion. And since this period, the project shareholders have not made any additional funding to the capital construction. We are in the final stages of the financing structure with a consortium of international banks. And we are working on closing this process in the nearest future.The overall project completion rate is now estimated at 45%. With the progress on the construction of the first GBS estimated at 61% complete. Roughly 90% of the concrete cast in or 157,000 cubic meters of concrete had already been poured for GBS #1 at dry dock #1. Steel structures are being prepared for installing the LNG modules, and we have also begun installing thermal insulation walls for the LNG tanks as well as constructing various pipeline racks. A gantry crane for lifting heavyweight LNG models is currently being erected as we anticipate the arrival of the first sets of modules to be installed on GBS #1 in September.At the Utrenneye field we drilled and completed another 6 production wells for a total of 35 wells drilled to date for GBS #1, or roughly 48% progress for the first stage development. During the second quarter, production drilling was carried out by 5 drilling rigs as rigs #4 and #5 were put into operation in April. Overall, we expect to drill 161 production wells according to the field development plans. So we are now approximately 22% complete with our total drilling program. Approximately 76% of the work activities at the Utrenneye terminal is now completed, including works on the administrative areas in berths #1 and #2 for the 2 -- for the first 2 GBS platforms.During the quarter we commenced construction work on berth #3 for the third GBS platform, as well as commissioned the new airport runway. And the faculty has already begun receiving regular flights at the new Utrenneye terminal airport. The construction of the ice barrier wall under state contract is still underway, and all dredging works were completed according to the seasonal work plans.At our domestic production sites, we completed 33 production wells during the reporting quarter, maintaining our client focus on the North-Russkoye cluster, particularly with the upcoming launch of the Kharbeyskoye field scheduled in the fourth quarter. We have effectively drilled and completed 100% of the wells at the Kharbeyskoye field to reach planned capacity, as well as completed various infrastructure works such as power lines to well pads and the construction and laying of gas and gas condensate pipelines. The field's gas treatment unit is currently being constructed with all the main equipment already installed.We also made the decision to proceed forward with the first phase of the Kharbeyskoye field's crude oil development as per the license requirements. The first stage is planned with the annual capacity of just over 1 million tons of crude oil with the planned production to start in early 2023. We aim to reach first phase capacity during the second half of 2023 with the primary infrastructure existing already at the North-Russkoye cluster. The tender process is underway for the oil treatment unit, crude oil pipeline and other field infrastructure works.As part of the Kharbeyskoye field's crude oil development, a booster compression station for the associated petroleum gas will be launched in the first year of field operations. Therefore, we plan to maintain our target APG utilization level of at least 95% and eventually reach our 2030 goal of 99% APG utilization as reducing emissions from our hydrocarbon production is one of NOVATEK's strategic priorities.During the first half of 2021 we drilled 6 exploration wells, added a planned 13 wells this year for our LNG projects. And we are currently drilling another 5 wells. We also completed our full geophysical plan by running 2,600 square kilometers of 3D seismic on our license areas. For our domestic projects, we completed 1 exploration well and are in the process of drilling 5 additional wells. We completed the running of slightly more than 1,300 square kilometers of 3D seismic and 150 linear kilometers of 2D seismic on license areas associated with our domestic production.In addition, we are currently drilling 1 of the 2 offshore exploration wells as part of our exploration commitment in Montenegro with Eni as the operator. We will provide more information on all aspects of our exploration results later this year.Our financial and operational results were very strong during the second quarter and first half 2021, with a very strong recovery in hydrocarbon prices and sustained demand in key consumer markets, including the Russian domestic market. Our total natural gas revenues increased year-on-year by RUB 36.6 billion or 48%, mainly driven by increases in both domestic gas sales and international LNG revenues of 11% and 181% respectively.On a quarter-on-quarter basis, our total natural gas revenues increased by 2% or by RUB 2.2 billion, largely due to stronger quarterly LNG prices that increased by 28.5% in Russian ruble terms per MCM, as well as a growth in volumes of 521 million cubic meters. However, our quarter-on-quarter revenues were offset by the additional seasonal declines in domestic sales volumes of 4.3 billion cubic meters or by RUB 15.6 billion in revenues despite the noted average 3% increase in the domestic tariff.We sold 17.7 billion cubic meters in the second quarter, of which 15.3 billion cubic meters or 86.5% of our natural gas was sold on the Russian domestic market and 2.4 billion cubic meters in equivalent LNG sales during the reporting period. Our combined sales volumes increased by 803 million cubic meters or by 4.8%, but was offset mainly due to a 3% reduction in spot sales from Yamal LNG as more volumes were sold directly under long-term contracts. Our LNG sales on international markets represented 13.5% of our total natural gas sales volume sold, but accounted for 40% of our natural gas revenues versus 21% and 25% year-on-year and quarter-on-quarter respectively.In the second quarter of 2021 our average LNG netback was more than 5.7x higher for LNG volumes sold internationally than the domestic netbacks we received for our volumes sold on the domestic market as compared to 2.4x in the prior year. In the first quarter 2021 the average LNG netback ratio we achieved was 4.3x higher than our domestic netbacks.Our liquid revenues for the reporting period totaled RUB 147.6 billion, representing a significant increase year-on-year of RUB 83 billion or by 130%, as well as a good increase quarter-on-quarter by RUB 17.6 billion or by 14%. The growth in liquids revenues were largely attributable to strong commodity prices across all of our liquid hydrocarbon products in both USD and Russia ruble terms, despite flat sales volumes year-on-year and an increase of 157,000 tons or by 4% quarter-on-quarter. We had 267,000 tons in transit at the period end as compared to 119,000 tons year-on-year and 190,000 tons at year-end.Our production forecast for the remainder of 2021 remains largely unchanged, with an expected annual increase of 3% for natural gas and a slight revision above the 1% liquids that we have previously guided. In the first half 2021 we achieved production of 6.7% growth for gas and 4.5% growth for liquids, mainly due to the launch of the fields in the North-Russkoye in the third quarter of 2020. Our operating expenses increased by RUB 79 billion or by 68% due to the higher prices paid for purchases from joint venture, but offset by lower spot volumes purchased from Yamal LNG. Purchases significantly increased year-on-year by RUB 59 billion or by 131%, with a strong recovery in benchmark prices, and represented 75% of our total increase in our operating expenses between reporting periods.Our quarter-on-quarter purchases also increased by RUB 11.5 billion or by 12%. We also had increases year-on-year in both transit and taxes other than income of 8.3% and 122%, respectively. Our transport expenses rose mainly due to increases in both tariff and volumes for natural gas, whereas our taxes other increase -- as other net income increased due to changes in minimal extraction tax rates for gas condensate in crude oil.Overall, our remaining operating expenses were relatively consistent with our expectations for the reporting periods and represented some seasonal adjustments, salary indexations and bonus accruals. We spent RUB 47.3 billion in cash on our capital program, representing a decrease of roughly 23% versus the prior year, but an increase of RUB 5 billion or by 12% quarter-on-quarter. Most of our capital spent this reporting quarter was consistent with prior year activities and mainly focused on our LNG projects and the Murmansk LNG construction yard, the Ust-Luga hydrocracker upgrade as well as developing the North-Russkoye cluster.Our capital expenditure program guidance for 2021 is estimated at RUB 200 billion and remains unchanged as of this conference call. As always, our CapEx guidance is subject to periodic revisions, dependent on the macro environment and changes to specific work programs. Our normalized EBITDA totaled $163 billion for the second quarter of 2021, increasing year-on-year by RUB 92 billion or 43% and quarter-on-quarter by 14%. The increase in our normalized EBITDA was largely due to the significant recovery in hydrocarbon prices and a stronger macro environment that translated into strong performances from our subsidiaries as well as good contributions from all our joint ventures, particularly Yamal LNG and Arcticgas.In the second quarter we received RUB 67 billion in dividends from Arcticgas, as well as RUB 252 million in cash distributed from our joint venture, Terneftegaz. We generated very strong positive free cash flows of RUB 104 billion during the reporting period as compared to reporting negative free cash flows of RUB 57 billion in the prior period and positive free cash flows of $32 billion in the first quarter of 2021.Overall, we generated positive free cash flows of RUB 136 billion for the first half of the year as compared to negative free cash flows of RUB 39 billion year-on-year. Our balance sheet remains strong throughout the reporting period. And as expected, our fundamental credit metrics support our international and domestic credit ratings. And we ascribe to the belief that a sound and conservative financial position is important during volatile economic times.Our investment-grade ratings were reconfirmed by both Moody's and S&P during the first half of the year. And we fully expect that Fitch rating will also reconfirm our investment-grade rating when they issue the report in the fall.The first half of 2021 demonstrated a stark contrast from the loads of the prior 2020 period. For the oil and gas industry, with a strong recovery, as I mentioned, in hydrocarbon prices, but uncertainty remains on the strength of the global economic recovery as well as increasing concerns on inflation. The continued spread of COVID virus and the variants are forcing governments to rethink their restrictions. And their decisions may directly impact the pace of economic recovery globally. Improving economic conditions support the fundamental drivers for energy consumption. So this statistic will be closely watched by policymakers, OPEC+ and a broader oil and gas industry, including ourselves.The second half of 2021 looks very positive for operations, with relatively stronger commodity prices and an improving demand outlook for both crude oil and natural gas consumption. The surge in gas prices in Asia and Europe and recently in the U.S. with Henry Hub at approximately $4 per MMBtu highlights the real supply tightness for natural gas. Natural gas storage in the EU is low at this time, and was approximately 55% as of today's call, which is 17 percentage points below the 5-year average of 72% at this time of year. We see the same trend in other parts of the world and low storage volumes to support underlying gas prices through the remaining reinjection season. There is real competition between the Atlantic and Pacific basins for LNG cargoes, and this reflects in a recent surge in spot prices these past couple of weeks.The short-term price outlook and the 12-month forward curves for both JKM and TTF looks strong for improved netback margins in the second half of 2021 as well as the strength in benchmark crude oil prices despite the recent announcement by OPEC+ to raise production levels. The forward curve of NBP and TTF are trading in the $12-plus to $13.5-plus per MMT range for the remainder of 2021. Whereas JKM is trending slightly higher in the 14-plus per MMBtu range for the same period.There are also a series of planned maintenance works on pipelines and LNG facilities during the next several months, including our planned maintenance at Yamal LNG scheduled for 19 days commencing on the 1st of August. The focus of this maintenance work at Yamal LNG is the first scheduled hot gas path inspection on the 2 main mechanical drive gas turbines after 32,000 hours of operations and the replacement of the drier bed absorbent material. The regular maintenance will be carried out in accordance with approved annual schedule and will not impact planned LNG production and sales volumes for the year. So the overall market trends looks very promising for the gas industry in 2021 and most likely will carry over into 2022.The upcoming November COP26 meeting in Glasgow will focus significant media and political attention on this major global issue. So it's safe to assume that much debate will be generated from these meetings, along with more climate declarations. Leading up to this event, the EU's 50% to 55% announced targets are quite ambitious and attempt to reduce EU's carbon emissions by 55% by 2030 from its 1990 targets.As a general policy statement, it was characterized as fit, fair and justifiable, but not everyone agrees with this assessment. Some EU organizations are calling for more bolder action to be taken by the EU to combat climate change. This debate is far from over and will surely intensified for many years, but the implications to a broader society will eventually mean higher energy costs, higher taxes and some drastic behavioral changes. Unfortunately, this aspect of the Net Zero message has not been adequately conveyed to society. NOVATEK will play a key role in this energy transactions to a low-carbon society.We recently announced that our Obskiy LNG plant was renamed to the Obskiy Gas Chemistry Complex. We will consider producing blue ammonia, hydrogen and other clean burning fuels like methanol. We just signed a 3C contract to understand the potential options to design, capacity and location of the gas chemistry complex. We do not exclude the concept of some LNG being produced as part of a broader concept. But this study should be completed before year-end, and then we'll be able to share more information about the project's parameters.We are analyzing the market and talking with our Asian and European partners to understand their long-term perspectives. To us, ammonia represents a new market and not just a fertilizer consumption, and it could be used in ship transport, electricity generation and industrial consumption. Ammonia is a good way to transport hydrogen, and we will consider options to produce hydrogen at downstream consumer sites rather than indirectly at our upstream processing site. We will use the same marketing principles as we do on our LNG projects and consider both the Atlantic and Pacific bases for consumer deliveries using the Northern Sea route to the Asia Pacific countries.We also announced a series of MOUs on decarbonization. And so far, the most progress made has been with our partners, Baker Hughes and Siemens. We are in close contact with both of them to transfer part of our Yamal LNG turbines to hydrogen. Preliminary analysis shows that at the current production sites, 20% to 30% of natural gas used in turbines can be replaced with hydrogen. And on future production sites it is estimated that we can replace up to 40% to 50% with hydrogen. These are important first steps, and we will keep everyone apprised of future developments, including our continued work on carbon capture and storage at Yamal LNG and other potential sites, as well as using renewables in power generation.In closing, we would like to reiterate our strong position that natural gas will play a leading role in the energy transition towards a low-carbon society for many decades, and will be an integral part of the future energy mix under any of the Net Zero or decarbonization scenarios. Natural gas provides stability and reliability to the power generation grids as the world significantly increases its use of electricity. It is also affordable and secure. The recent release of our 14 sustainability report and our announcement to form a subcommittee on climate and alternative energy at the Board level demonstrates our commitment to the principles of ESG and our underlying support to build a low-carbon future for society in a responsible and environmentally friendly manner.We are very pleased with the strength of our financial and operational results for the first 6 months of 2021, and look forward with optimism of delivering exceptional results and strong free cash flows through the remainder of the year.We would like to thank everyone again for attending tonight's conference call and for your continued support of NOVATEK. We are now ready to open tonight's session to questions and answers. Thank you.

[Operator]

[Operator Instructions] Okay, so we will now take our first question from Ekaterina Smyk at Bank of America.

[Ekaterina Smyk, Analyst]

And congratulations on strong results for the quarter. I have couple of questions. If I heard you correctly on the share of spot sales at Yamal LNG of above 30%, like 36%, I was just wondering how you managed to achieve such quite high share of spot sales. That's not something that I would have expected. And the sort of the question here is that can you shift contracted volumes between quarters within a particular year? And the second question is on the crude production at the North-Russkoye cluster. Your plans were obviously affected on the start-up of crude production, were obviously affected by the OPEC+ agreement last year. So what's the current update on that? When do you plan to launch crude production at the caster?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Okay. Thank you for the 3 questions. To start off, let's say, we can sit here and joke about the first question because we tried our best to increase, obviously, our proportion of spots during a particular quarter with a stronger spot sales. And I think we've achieved it partially. But the thing we have to consider is the annual schedules and supplies are already approved by the start of the year with all our customers, and this depends on a huge number of factors, including but not limited to production and consumption forecast, tanker availability, maintenance schedules, both at the production sites at Yamal, and also at the receiving terminals, et cetera.So I think we did the best we can given the circumstances that we operate under. And I would say that we may adjust -- as part of your second question, we may be able to adjust this a little bit more in the second half of the year, but it largely really is based on dealing and working with our contractors, et cetera. And what do they want to do in terms of their volumes, are they willing to trade-off some spot for long term. So I think this is the first full year that we now had 100% of our Yamal LNG contracts in place since the beginning of the year. And so I think we'll see a more stable position in terms of what they split between long-term and spot stock contract will look like over the upcoming periods of time. So I think it just -- it's really a function, like I said, working with our off-takers and seeing how we can increase. But this question also gets addressed in the opposite way, and it just really depends on price because in periods where spot was lower and the slope on long-term contract is higher, people are asking us can we increase the proportion of our long-term sales.So I think we did the best we could under this current situation. In terms of the -- your other question in OPEC+. I mean obviously, even as we look at today's operations, we're basically subject to the OPEC+ agreement for our current crude oil production. So depending on where we -- particularly what date we launch and the contract, the OPEC group plus agreement has been extended out to 2022. Obviously we would be subject to that agreement. So it really, it just depends on any production of oil we do in our current field. As to Kharbeyskoye, as it relates to Kharbeyskoye, we don't expect to produce until 2023. So I think it really just -- we have to see at that particular period of time what the commitment to the OPEC+ agreement will be. Will they extend it beyond 2022?And at this point, I don't really have an answer for that question. But our current oil production is subject to the OPEC+ requirement. Our condensate production, as you know, is excluded from these discussions. So I think we just need to wait to see if the agreement is extended beyond 2022. And if so, obviously our production, our new production coming from Kharbeyskoye crude oil development program will also be subject to that same requirements.

[Ekaterina Smyk, Analyst]

Understood. And your -- the gas production profile is not affected by the fact that you're postponing the launch of crude production at Kharbeyskoye?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

No, it's a different layer. So it doesn't have anything to do with the crude oil. What we're specifically doing at the Kharbeyskoye field is targeting specific crude oil layers. So it won't have any impact on our gas production.

[Operator]

We will now take our next question from Henri Patricot at UBS.

[Henri Jerome Dieudonne Marie Patricot, Associate Director and Equity Research Analyst]

I wanted you to follow-up on the comments you made on the Obskiy project. And I was wondering if you can give us some sort of sense of the time line, so you said the study by the end of the year. And then when could we expect this project to start up at the earliest do you think? And interesting to hear that there could be some LNG production as part of it. Could it be as still as big as you initially envisaged with 5 million plus of capacity per annum? Any details would be interesting.

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Henri, thank you very much. I would just say that we have spent a significant money already on the 2 licenses in the field development. So the fields that we're talking about that were originally scheduled to be used for Obskiy LNG are in a very advanced stage. So the size and the quality research of these 2 fields fits our potential aim to look at a broader perspective between the gas chemistry project as well as LNG, okay? I think it's -- to go back to your -- what you're really trying to ask is, I think we've already said we engaged on the pre -- contractors for the pre-FEED, and that work is expected to be finalized by the end of the year. Maybe in the third quarter results, as we report in October, we may have some updates to be able to provide. But I think, honestly, that this will be something that we'll be able to talk only after the pre-FEED study is done because how -- will an LNG complex be the size of what we initially planned, most likely not.And I think we just need to wait for the parameters to come out and to be able to provide you with both what the new concept looks like collectively. Because you already know what we talked about in the LNG complex. So what would the total project look like in a gas chemistry world? And how much of it will be LNG, if we produce LNG. I mentioned one of the parameters is even where do we design the project. Is it going to be on site? Or will it be on a kind of a GBS module? That is all being considered at this particular juncture. So I think it's best to wait until the pre-FEED work is done. And then once we get the parameters done, then it provides us with the optionality to decide on exactly where we want to move forward with this -- the Obskiy project. And then at that time we can give you a better understanding of the expected timing for an FID decision. But I think right now, I think it's still a little premature because we need to get through this pre-FEED study.

[Operator]

We will now take our next question from Ron Smith at BCS.

[Ronald Paul Smith, Senior Oil and Gas Analyst]

Mark, I've got a question for you about train for Yamal LNG. You know that the Arctic Cascade technology has been something of interest of mine lately. And it sounds like you're still debugging it. I was just curious, once you get that polished up and running correctly, what is the scope for using that technology on -- in your next projects? Is there any chance it will be adopted as the main technology at Arctic LNG 1 or 3? Or what is the current thinking?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

I mean Ron, as a new technology, I mean, I'm sure I'm sure we're not the only company in the world that had to go through tweaking processes with a new technology. I'm sure all the standard air products, air liquids, et cetera, those technologies when they first were introduced also went through various changes and tweaks in their processing capabilities. So this is not an unusual circumstance that we're experiencing as we're going through Arctic Cascade, all right? So I just want to lay that out, that I don't think this is an unusual situation that we're dealing with. So when we go through this process and these tests, it's going to give us a better understanding how this technology works. And I think a key factor, Ron, is also to understand, as I mentioned, how this technology works under various climatic conditions.Because, as you remember, Arctic Cascade was supposed to take advantage of the colder ambient temperature so it allowed us to change the fluid cascade system of the processing or liquefaction plant. And we just need to see how this operates over various climatic conditions. And this is what we're doing now. So this summer obviously will be a good indication to see how the plant works and whether or not any other modifications or adjustments need to be made. Whether or not we'll use this in other sites, I mean if you look at Arctic LNG 1, I mean, the plan is already to continue using the technologies of Linde that we already have the process and licenses for.So I don't think that size and scale of an Arctic LNG 1 being almost of an equivalent size of Arctic LNG 2 would use this type of technology. But it may be able to roll out on a smaller scale, again, to some of the satellite fields. But that, again, we need to understand its operating capacity. But the more we work with it, the more we work with the Russian producers of equipment, the more comfort we'll get with the quality of the equipment that we're getting and the reliability. So I think the process we're going through right now is the logical process, and we'll make that determination after we see how this operates over, like I said, 12 to 18 months through various climatic conditions.And then I think we can come back to that in a later time. But right now, we expect to be up to full capacity in the autumn. And through the debugging process, obviously we'll see if anything else comes out of it and what other modifications and changes that need to be made to the technology. But again, for the audience out there today, this is not an unusual situation as we bring forth a new technology, but we are extremely proud that we've been able to do this because now this has allowed NOVATEK to work with various companies and various technologies, whether we do, like I said, the air products, air liquids, Arctic Cascade and then even the cryogenic work we do on the small-scale LNG. I think we've been exposed to various liquefaction technologies in our -- and I would say in a very limited amount of time in the scale of operations that we've done already. So I think we just need to see how it operates and then make that determination if we can roll that out, the Arctic Cascade technology or modified version of the Arctic Cascade technology to other projects. But I think we just need more time for that one.

[Operator]

We will now take our next question from Ildar Khaziev at HSBC Bank.

[Ildar Khaziev, Analyst]

Can I ask you whether inflation in steel prices and other commodities have made any impact on your financial schedule? Or whether we should expect any impact in the next few quarters?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

All right. Thanks for that question, Ildar. We've been asked this question a few times already during our -- obviously, our meetings. And I would say at this juncture right now, it doesn't impact dramatically our current projects that we're already basically committed and already locked in some of these prices for the existing projects that we're working on. But inflation could have an impact on future particularly steel, et cetera, could have an impact on our future projects. But I think right now I think we're pretty okay or insulated from any changes in the price at this particular point in time. But it's definitely a consideration that we have to think about. And I would say inflation, not only with steel, but inflation, salary inflation, et cetera, things that we have to concern ourselves. But I think for the current projects in place, it's not a major concern at this point.

[Operator]

[Operator Instructions] We will now take our next question from Andrey Gromadin at Sberbank CIB.

[Andrey Gromadin, Analyst]

I have a small question about 2 deals the company disclosed in second quarter financial statement. First, on 10% stake sale to TotalEnergies in transshipment terminals. My understanding was that it's going to be like CapEx compensation deal more likely. And Total paid just $5 million. Is it an indication of low progress at this point on these projects? Or there's some sort of leverage may be involved. I'm not sure how to read it. And the second one, 49% stake acquisition from Gazprom, Gazpromneft in Severo-Urengoyskoye license areas. What sort of prospect is there? How you will be looking at this project? And what's the exploration program, the plan?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Okay. On the first question, what Andrey was alluding to was the 10% stake that we sold to TotalEnergy as part of our Kamchatka transshipment complex. And we did receive payment. It was closed in the quarter at roughly RUB 368 million, excuse me, or about $5 million, and there's a potential to earn up to another $20 million on certain future events. The structure, it's not really recovering CapEx, as you alluded to before. It's not like the traditional deal that we've done in the past because, ultimately, on this transaction we're not going to incur the capital expenditure to build this. This will be built and managed by another entity, a state-owned enterprise.And so this is just the entrance cost into the concept with us. And the upgrade, potential earning additional, like I said, is something that we probably will earn through, I think it's like a transit type volumes, et cetera, going through. But it's not a recovery of the CapEx like we've done on our Yamal project, an Arctic LNG 2 project. It's just an entrance. It's an entrance cost to this project because the structure of the CapEx will be managed by another entity, not the joint venture. Okay? So on the North-Vrangelevskiy license area where we acquired 49% stake it for approximately RUB 1.7 billion. For those who know this, this is on the eastern part of the East Siberian Sea and the western part of the Chukchi Sea. It's a new area for us, obviously. We have created a new subsidiary company, I think it's called NOVATEK Sakhalin Area.It's going to be exploration work at this stage on a parity basis with Gazprom Neft. I mean we'll be looking for both, obviously, gas, gas condensate and oil, depending on what the formation produces. But the timing and scope of the exploration work, Andrey, at this particular time has not been determined. So this is something that -- it's relatively new. We're going to work very closely with our partners, Gazprom Neft. As you know, we work on the Arcticgas project with them. So we work with them very closely. And we'll just have to wait to see what -- when we announce an exploration program, based on our mutual discussions with our partner, we will then come out and disclose what the plan looks like. But right now, there's been no discussion yet on the scope of work and/or the timing of the work in this particular area. So I think this is a future question.

[Operator]

We will now take our next question from Kate O'Sullivan at Citi.

[Katherine O’Sullivan, Analyst]

Just one question, please. Against the backdrop of the tight gas markets would you be able to provide some color on LNG contracting discussions? And maybe an update around your strategy for Arctic LNG 2 contracting?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Yes. It's obviously a very tight market, as you see right now. And it's obviously created spikes. And like I -- I mentioned the surge in the pricing. And I think every day we're seeing prices continue to rise which average concern for many of the consumer nations. And I think we saw maybe a month ago some of the Chinese buyers have actually stepped away from buying spot sales because the price was high. And then now we're seeing more buyers step back into the market, both in Pakistan, Bangladesh, India, China, et cetera. And even some of the Japanese customers are now stepping back in when we look at sort of the upcoming tenders and processes and some of the contracts that have been signed. I think they're realizing that prices are going to continue to rise in the near term.So I think from our perspective, fundamentally, we think that the high price environment so far has really not deterred gas consumption, which is, I guess, is an important element because we have a longer-term perspective on what we think is a reasonable price for demand growth. But obviously, these particular short-term high prices have not deterred demand outlook. So I think we're pretty pleased to see that. Not a lot of new LNG complexes have been commissioned, as you know. The biggest one, really the only major one is the Qatar expansion. So in our estimation, and I think it's pretty consistent with the market view. And I think you folks have also just recently issued some research report on that too, on the tightness of the market that we think that the '23 to '25 period when Arctic LNG 2 commences its production, there's potential for the undersupply in the market. So I think it's important that we launch these things on a timely basis.The other thing -- the other thing we see is the discussions that are going on right now, there are still discussions on long-term demand portfolios, expansion plans with companies. I don't know if you saw, Taiwan just announced that they're going to build additional regasification terminals because they expect to significantly increase the amount of LNG imported into that region, which is very positive news for companies that are looking to sell into this particular region. But I think right now, I think given where we are in the marketplace, we are talking to potential buyers. We did announce at the St. Petersburg economic -- International Economic Forum, additional contracts that we -- heads of agreements that we signed with off-takers for purchase of LNG from NOVATEK Gas and Power Asia. Because as you know already, we've already laid out, the project itself has been derisked by each of their respective partners taking their equity volumes from the particular project.So we're now in this process of selling our proportionate share. And now I think they're in the stage of finalizing sort of SPAs for those particular volumes. And I think we'll -- over the course of the year we'll make some more announcements on that. But there is a lot of interest. And we are talking to off-takers. I think we've been very active, quite to say, in marketing our future volumes. And we see that in these discussions, there is still demand in these discussions maybe contrary to what people actually believe, but there is demand in these discussions for having some still remain to an oil leak, crude oil [indiscernible] both with thick slopes and S-curves. And the reason why we're seeing this discussion because, as we saw over the last 12 months with a huge volatility in the marketplace, the S-curve contracts actually limited the volatility.And so you see that buyers are also willing to look at this particular avenue in terms of the price and decide just basically gas pump prices, which we ultimately believe will be the fundamental or hybrid base type contract. And I think the other thing we're seeing when we're in this -- talking in these discussions is the tenure, the term of the contracts. As we saw recently, we see that now there's a shift in the composition. And a higher proportion of LNG sales are being negotiated on a spot market. And then when you look at the -- which represented more than 30% already, and then you look at the composition between spot market and what we would consider to be midterm, 3- to 5-year contracts, you're probably over 50% of the LNG trading in the marketplace.So I think we're well-positioned as a company to take advantage of this with our volumes, as well as with the shift in the construction. So I talked -- we talked about the transshipment complexes [indiscernible] because this will allow us to work with our buyers in the -- particularly in the Asian Pacific market, if we look at sort of east-bound shipments through the Northern Sea route.And then I think the other thing too is this whole idea that decarbonizing society and all these sort of net 0 commitments. We -- like I mentioned in the text, we believe more gas will be needed, not less gas. And I think one of the advantages that we demonstrate in the marketplace already is by controlling the value chain we're able to look at our carbon footprint. And as the world starts moving and start asking for more sort of green LNG contract, this idea of certifying through monitor and verification reporting is going to become a much bigger issue and questions for companies that have to address. And I think we, given a control of the value chain can answer this question affirmatively for many of the buyers. So I think it's not a question of are we having difficulty.So I think -- no, I think it's just a question that last year, as you know, as I mentioned, we were not in a rush to sell LNG volumes. With the low prices we had this huge buyer-seller expectation gap. And now we see that prices have firmed up. And we know, as you rightly said, with the market tightness, yes, there are discussions going on. And I think we should be able to conclude more contracts. So I think the overall market is evolving, and I think we're well positioned. And I don't think we really have any major concerns at this juncture right now in our ability to market natural gas firm Arctic LNG 2. So I think we're in a good position. And I think we'll make some announcements over the course of this year on some of the SPAs that we'll finalize. That was a long answer around many topics, but I hope that answers your question.

[Operator]

So we will now take our next question from Kirill Bakhtin at Sinara.

[Kirill Bakhtin]

Could you comment on the dividend payout ratio for 2021? So given strong numbers in the first half of the year, should we expect a ratio of 50%? Or it can be higher and exceed 60%?

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Well, the policy is pretty firm. We changed the policy last year and approved it in December where we're going to issue at least 50% of the net profit according to -- adjusted net profit, excuse me, according to our international accounts. And as you can see in the first half, we exceeded that. And that's what gives us the at least variant in that -- in the policy. So we're not saying we're going to distribute 50%. We're going to distribute at least 50%. And so it really depends on the profitability over the second half of the year, which I believe will be strong. And we'll consider what that dividend payment will be for the full year. But the policy is said, and we're not going to deviate from that policy. And I think it's written in a very, very friendly investor-friendly manner where we can raise it up to any level we want above that 50% threshold. And I think it's just a question of waiting until we announce what our dividend policy would -- wait until we know what the dividend payout will be at our next dividend round. So I think it's something you just need to wait until we make that announcement.

[Operator]

[Operator Instructions] Okay. So it looks like that is all the questions we have for today.

[Mark Anthony Gyetvay, Deputy Chairman of the Management Board & CFO]

Okay. Well, just in closing, again, I just would like to just reiterate to everybody that if you have a chance, visit our website and either download or review the sustainability report because a lot of effort was put in. I know we've had a lot of questions over the past year on the question of sustainability, ESG. And I think we put a lot of effort in this year to continuously improve the amount of disclosures and the information that we provide to the marketplace. And I also would like to just say, even on the presentation package that you got for the conference call, we included a series of new slides that highlight sort of what we have achieved so far in regard to the targets that we have established for our climate and environmental targets by 2030.So I think we'll -- we look forward to seeing everybody after the holiday, summer holiday season. Again, I expect that we should have a strong second half of the year given where we are in terms of pricing in the marketplace. And we look forward to addressing everybody at the upcoming investor conferences and at our future conference calls. So again, I just like to say thank you to everybody for your support. And if you have any follow-up questions, feel free to contact us at [e-mail], and we'll assure that we'll get back to you on a timely basis. So again, thank you very much. Stay safe. And we look forward to address you in the future.

[Operator]

This concludes today's call. Thank you for your participation. You may now disconnect.