Orlen SA
PSE:PKN
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Earnings Call Analysis
Q3-2024 Analysis
Orlen SA
In the third quarter of 2023, ORLEN Group reported solid operating results despite navigating a challenging macroeconomic environment marked by a decline in revenues exceeding PLN 10 billion. This downturn primarily stems from falling gas revenues and refining margins, which faced intense pressure due to weaker global demand. Notably, the company's LIFO EBITDA stood at PLN 8.1 billion, only slightly down from PLN 8.6 billion year-over-year, showcasing resilient operational performance amidst the fiscal headwinds.
The company generated impressive cash flows, producing PLN 2.5 billion more from operations compared to the previous year. This increase was attributed to a favorable regulatory environment and a significant reduction in gas-related write-offs. Furthermore, ORLEN maintains a robust balance sheet with a net debt-to-EBITDA ratio of just 0.04, indicating very low indebtedness, which positions the company favorably for future investments and shareholder returns.
The refining sector faced a steep year-over-year drop in margins, plummeting by 65% to a high-single-digit range, now averaging approximately $11 per barrel. This sharp decline could be linked to both weaker gasoline demand and increased refining capacity coming from competitors. Despite high asset utilization of around 94%, the segment's EBITDA was adversely affected by these macroeconomic factors. However, trading margins showed some recovery, driven by a lower baseline effect from the previous year.
For the year, ORLEN expects to spend PLN 33 billion in capital expenditures, reflecting a PLN 2 billion reduction compared to the previous year. A significant share of this reduction is permanent, with drops noted in both gross and maintenance CapEx within specific segments. The refining segment plans to allocate PLN 7.5 billion for investments, focusing on high-value areas like heat breaking, biofuels, and downstream placements.
Moving forward, ORLEN projects another mixed quarter in the fourth quarter of 2023, with a forecast for EBITDA to potentially fall below previous levels due to tightening spreads in the gas segment. However, improvements in the refining and upstream segments are expected driven by recovering margins and greater traded volumes. Specifically, the company anticipates that Brent prices may decrease to $81, partly prompting a reconsideration of future strategies and investment practices.
The management reaffirmed a commitment to its dividend policy, which guarantees a floor dividend of PLN 4.15 per share, incrementally raising by PLN 0.15 a year. Discussions regarding making this policy more attractive and transparent are ongoing, with potential room for increased shareholder returns pending economic and operational evaluations. Stakeholders can expect further clarifications during the upcoming strategy update in December.
The management team emphasized the importance of maintaining a diversified portfolio to withstand market volatility, especially in view of the energy transition. Future strategies will involve actively pursuing partnerships and refining investment plans to allow for greater flexibility and reduced risk, as well as seeking avenues for improving free cash flow generation.
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Good morning, everyone. Welcome to Q3 Orlen Group Financial Results Presentation. My name is Jakub Frejlich, I'm Head of Investor Relations. Together with me is Magda Bartos, company CFO; and the supporting team. So without further ado, I will hand over to Magda to give the presentation, and we will have a follow-up Q&A session afterwards.
Thank you, Kuba. Thank you, Kuba, and good morning, everyone. A warm welcome from myself as well. Today, typically, we will guide you through our Q3 results. But first, a brief summary what happened in Q3, and then we will go into a bit more detail regarding each segment, each operating segment and our outlook.
So let's start with the summary. Solid operating results in what continues to be a demanding macro environment. And what you can see on the page here is a drop in revenues by more than PLN 10 billion, and this relates specifically to a drop in gas revenues related to gas prices and gas spreads and compensation and refining revenues. And that relates to refining margins. We will, as said, deep dive into both those macro drivers later.
However, what is worth noting and what relates to the solid operating results is our LIFO EBITDA adjusted for one-offs and write-offs. And that stood at PLN 8.1 billion for the third quarter this year comparing to PLN 8.6 billion for the corresponding quarter of last year. So a much less painful drop of PLN 0.5 billion and improving our solid operating results for the quarter.
Cash flows came strong as well, PLN 2.5 billion more of cash generated from operations. That relates to a lighter regulatory environment and less gas and write-off that we accounted for in Q3 this year compared to Q3 last year and strong standing of our balance sheet that is worth noting. We've got a robust balance sheet with limited indebtedness of 0.04 so virtually no net debt to EBITDA on balance sheet.
Let's carry on and discuss our macro environment. These are key drivers for our business, macro drivers for our business, continued to normalize in the third quarter over the first 9 months of 2023.
The refining environment specifically has normalized to the level of high-single-digit refining margin as compared to more than $20 per barrel last year for the same quarter. That represents 65% drop year-over-year and has a very significant impact on the refining results.
We associate that drop to specifically gasoline and middle distillate drop related to weaker global demand and more refining capacity coming up in -- specifically in Nigeria and [indiscernible] refinery. Brent crude oil drop of 7% relates to, again, weaker global demand but also uncertainty as to supply restrictions and OPEC countries releasing those restrictions.
The Polish gas index continued or followed the European gas indices, and this increased over the last few quarters. And that specifically relates to uncertainty to global geopolitical situation but also uncertainty related to supplies from Norway.
Electricity price drop relates to CO2 prices drop and normalized expectations as to electricity prices, has less of an impact on our results, but we will discuss it later as well.
And now we let's summarize the segment operating performance. And the normalization of the macroeconomic results together with solid operating results can also be seen here on this page.
On the upper graph, you see how diversity matters, and we are a diversified business that builds up the resilience of our results. And we've got each of our segments with the exception of petrochemicals, but that doesn't come as a surprise, contributing strongly with solid operating results to the PLN 8.8 billion EBITDA LIFO for the third quarter of 2024.
And I would rather spend more time discussing the next pages and details of each segment. So let me carry on, and we move to refining. Refining operations were very solid in the third quarter of this year with high crude oil throughputs and high asset utilization. We've got roughly 94% of asset utilization for the quarter.
Our Polish and Lithuanian refineries operated at a very high utilization. Czechia had some shutdowns and that's specifically shutdown related to the unexploded ordinance that was found on site of our Litvinov refinery. But what was the key driver of our performance in the third quarter of this year was definitely macro environment and the mentioned drop of 65%, accompanied by a drop in the differential as well that all drove to more than PLN 2.7 billion impact -- negative impact on the segment's EBITDA.
We significantly improved trading margins in the third quarter of this year, but that relates to a distorted baseline of 2023 when specifically in August and September of 2023, refining wholesale prices in Poland were unusually low and create a very low base, allowing us to show the significant improvement in the other section on the EBITDA bridge that we can see.
And lastly, let's take a look at our CapEx, PLN 7.5 billion CapEx planned for this year in refining segment, already spent 4.3%. We've got an update for you on the total CapEx expected. We currently expect a total of PLN 33 billion CapEx for this year, which represents a drop of PLN 2 billion compared to last year, and I think is a great testament to what we as the new management team announced at the beginning of our work together that discipline related to spending and discipline related to CapEx and investment is going to be our key priority. And we keep revising our projects and investment plans to provide for the most optimal forecast and plans.
The key projects here in terms of investments in the refining area is heat breaking in our Plock unit and biofuels units in our Plock unit as well, HVO, specifically bottom of the barrel installation in Lithuania and oil units in [indiscernible].
Let's carry on to petrochemicals. I mean within the petrochemical sector, I think the situation has been doom and gloom and continues to be doom and gloom. We noted some slight improvements in the third quarter of this year related to volumes, related to margins, but those were not enough to significantly improve the performance of segment. We continue to be in the negative territory in terms of operating results.
And that is not a matter specific to ORLEN obviously. We are struggling -- the petrochemical sector is struggling in Europe and driven by 2 areas. One is the market drivers, weaker demand, weaker economic performance or performance of economies in Europe drive the prices down, but also oversupply from territories, from suppliers producing on gas feedstock as compared to naphtha feedstock. So feedstock that is structurally a cheaper and more attractive makes it more difficult for European producers to compete in the market.
And that is probably one of the key dilemmas of the management team currently as well as it is within the petrochemicals segment that we deliver -- currently are delivering our largest investment in Olefins projects. We currently have got PLN 3.8 billion spend in the petrochemical segment out of PLN 5.6 billion planned for this year.
And you must have seen announcements from us last week where -- when we announced that our analysis of the project continues. And we will come back to you with conclusions till the end of this year.
And the energy sector, the energy we've got a new piece of information within -- related to energy segment. And that is our EBITDA contribution of each business line. And you can see that out of the roughly PLN 950 million EBITDA for the quarter, almost PLN 700 million was delivered by energy distribution. This business line provides for stability of our performance and cash flow generation and is a very stable component of the segment's EBITDA.
Another factor that drives performance of the segment is seasonality. Our heat plants delivered lower results. But that, again, is not a surprise and is a very regular trend in the summer months for these assets.
What is, however, crucial to understand when analyzing the results of energy segment is regulation. We had a change in -- or unstable, let's say, environment with regards to regulations.
In Q3 this year, we didn't have to pay anymore of the windfall charges. In Q4 -- in Q3, sorry, last year, we still had a charge related to the support of our retail customers in the amount of PLN 420 million. So there is a positive impact of that change.
However, the allowances, compensation as we call them, were also significantly lower by more than PLN 500 million and did not cover the cost corresponding to the maximum tariffs that were approved by the regulators and thus, drive the EBITDA of energy sales business to the negative territory. You can see that on the composition bridge on the right-hand side of the page.
And another element that I would like to explain is an impact -- a significant impact of almost PLN 500 million related to IRS. Baltic Power financing comes with an IRS instrument that needs to be revalued at each reporting period.
And this time, we accounted for negative results for that IRS instrument of PLN 270 million, while in the same quarter of last year, we had PLN 200 million positive impact. Good news is that we are working together with our reporting team to eliminate that kind of charge from the EBITDA line, putting it below the bottom line so that a nonoperating impact does not distort comparable -- comparability of our results in the future.
And the next segment, retail, a very solid performance, both driven by inorganic and organic drivers. Inorganically, we drove the number of retail sites in the third quarter of this year compared to last year driven by expansion in the Austrian market, Hungarian market. But also, we continue to expand in the Polish market, obviously, less of an impact, but still quite visible.
Organically, however, we significantly improved fuel margins. And that also relates to a nonstandard situation of last year when for the corresponding quarter, fuel margins were kept low and especially in the Polish market, impacting the results of the segment.
Let's carry on and discuss the upstream business. There are 2 main messages for the upstream business. First, increase in the capacity. We -- with the acquired assets in Norway, we continue to improve or increase our capacity, hydrocarbon production in this quarter, it was 22% of an increase on volumes.
However, one thing or what I also need to mention in terms of volumes and production is a slight drop of production in the third quarter of 2024 that relates to planned outages in our Norwegian asset. 13 out of 20 of the currently active fields were undergoing or underwent maintenance in September and thus impacting our average daily production in the third quarter of this year compared to the previous quarter.
And another driver of performance for the upstream business is regulations. Finally, there is a sound of relief here. We didn't have any windfall gas charges related to upstream operations in Poland. We had those in the first half of the year. You might remember, PLN 15 billion altogether. And in the last year, we also accounted for PLN 3 billion of those charges.
So that drives a positive change of EBITDA in this quarter. And I think all in all, our performance is very -- that's a good representation of solid operating performance and results that should be expected in a stable macro environment for the upstream business on a quarterly basis.
And gas trading, what we can see here or things worth mentioning here is increase in volume. And that specifically relates to domestic gas sales for industrial clients or business clients. So those volumes went up by 16%, and we relate the change to a normalizing macro environment.
When -- with less volatility in gas prices, the spreads are tightening, our customers feel more comfortable and as such, our volumes improve. And you can see the macro change, quite a significant macro change with -- is associated to lower margins on sales of gas and tightening spreads, as I mentioned, with less volatility in the market. And there is also a one-off impact on the results of the segments related to the [indiscernible] contracts that we continue to account for related to PGNiG acquisition.
And let's move on to discuss debt. This is a new update, but we thought might be of interest to you, especially that we have put quite a lot of effort over the last few months to conclude on the 2 large financing deals.
The first one is European Investment Bank, providing us a 15-year tenor debt instruments for financing modernization of our energy grids. So that specifically relates to Energa Operator, PLN 3.5 billion of -- very attractive in terms of cost and very attractive in terms of tenor financing that will support the modernization of the grid.
And revolving credit facility, we signed a new revolving credit facility of PLN 2 billion and dual currency [ 5 plus ] 1 plus 1 tenor, providing stability of balance sheet and operating financing, a great support to manage our cash flow operations throughout the next year.
And lastly, let's take a look, briefly take a look at our short-term perspective, short-term outlook. We continue to believe that lower commodity products will support economic recovery in the region. And there are 2 major updates that we show with you on this page.
First one related -- and both actually impacting refining business. First one related to Brent prices. We lowered our expectation related to Brent prices to $81 and driven by the same factors I mentioned when discussing refining segment operations.
And same drivers drive our expectations of refining margins down to $11 per barrel, meaning more capacity, more supply in the region with weaker demand globally driving specifically gasoline and middle distillate down. However, we expect less volatility in the refining margins for this quarter -- for the last quarter of this year.
And to comment briefly in general on the EBITDA for the fourth quarter. We expect the EBITDA slightly negative compared to last year's EBITDA, specifically driven by the gas segment, where tightening spreads will compare negatively to last quarter of 2023.
On refining and energy and upstream, we expect that the result in quarter 4 compared to the trend of the year. In refining, higher trade margins will improve our results comparatively. In energy, improved regulatory environment and in upstream as well. Retail and petrochemicals are expected to deliver comparable results, stable results.
And we also -- lastly, last comment from my side, we also took a look at your consensus. We still feel quite comfortable with your forecast and how you see the business for this year.
And with that, thank you very much. As Kuba mentioned, we are all gathered here in the room ready to answer your questions. Please go ahead.
So thank you for the presentation. By the order of raised hands, I'll hand over to Michal.
I have a couple of questions. The first one, you have said that the CapEx spend for Olefins so far was PLN 14 billion, and that it will take roughly 1.5 years from today to fully stop the installation if such a decision were taken. How much would the total CapEx, including penalties be if you stop this installation in December, including penalties? And would the EBITDA from this installation be new to 0 at current shape?
Let me clarify the total CapEx spend. Total CapEx spend for the Olefins 2 project -- Olefins 3, sorry, project is PLN 12.5 billion, out of which almost PLN 9 billion has been written off. We -- at this point in time, we are unable to comment on very specific numbers related to the project shutdown or project continuation.
As we mentioned in our announcement last week, the analysis continues. And while you might have had some comments, those were purely estimate, and I would rather avoid talking about specific numbers until we've got specific scenarios.
But of course, I'd like to give you some flavor so that you've got a better understanding what is being analyzed. One of the scenarios is indeed to cease or suspend the project. That might be temporarily or permanently. And that would involve settlements with our contractors already on site, but also our commercial partners that we contracted our volumes with.
That would obviously take time to demobilize and also clear up the scene. And so as such, it is a lengthy process and might involve or surely will involve specific funding.
And the second scenario, which is rightsizing or resizing the project to make sure that we maximize value from the volumes of base chemicals produced. That requires a revision, a thorough revision of CapEx.
Therefore, it would be premature to comment on the total CapEx and any incremental EBITDA from that scenario until we complete our analysis. So please be patient. We will take a few more weeks and then share all the details about the scenarios and the selected one as well.
Sure. The next question, are you considering purchasing a stake in the JV from LyondellBasell, which is planning divestments in Europe? Can you expand, please, on what you think about this type of naphtha-based installations in Europe? Could this be for you an opportunity to buy it cheap? Or are you long-term negative on these assets?
We currently have got a JV with LyondellBasell. That's [indiscernible] polyolefin, so a polymer producing installation [indiscernible]. And that is a naphtha feedstock-based installation. And our partner announced they're reviewing the future of the new European assets.
I think I mentioned during my comments to the petrochemicals segment performance that we see a structural negative of the sector related to differences in prices of naphtha-based products and gas-based products. We believe it is a irreversible change in the market. And therefore, economics of the naphtha-based product is and will remain difficult.
Therefore, I think it would be very difficult to justify an investment in a naphtha-based cracker or polymer plants in Europe, specifically in Western Europe. But obviously, we keep an eye on interesting assets and analyze all the assets. But the belief or outlook is rather difficult.
Perfect. And maybe the last question from my side. You said yesterday that you have relatively -- that ORLEN has a relatively better balance sheet relative to its peers in the oil and gas sector with another CapEx reduction for this year that you presented and probably for the couple of -- for the following years. Do you see in your balance sheet room for special higher dividend next year than your base amount PLN 4.3 per share? Do you see room due to better CapEx discipline?
Let me address the question this way. What is and will be a top priority for our management team is transparent dividend policy, a dividend policy that is attractive and transparent. I think those 2 objectives are the ones that best describe our approach.
We've got a dividend policy in place that provide you with the floor for next year. But we also want our returns to be attractive in comparing to our peers. And in the exercise or in the process of reviewing our strategy, we are discussing how we can make our dividend policy or returns to shareholders more attractive.
It is too early to comment on the dividend for next year. The floor is what you will definitely -- what you can definitely expect. But if there is space and if there is possibility to return more to shareholders, our strategy will tell, and we will announce that in December.
Thank you, Michal. So now I'll hand over to Christophe.
Christophe speaking. I have 3, if I may. The first question would be about CapEx. So what's the major reason for CapEx reduction this time around? The largest drop was shown in petchem. And the question is, is it like a permanent cap to the CapEx pipeline? Or there are some delays and some part of the CapEx would be carried over into 2025? And yes, this was this question about CapEx.
And the second question would be about gas segment. So have you already received any LNG cargo from the Venture Global [indiscernible], which would be according to the contractual agreement, not the spot delivery. And if not, what are your expectations regarding the timeline for the first cargo delivery?
And on the same issue, what's the state of affairs regarding the arbitrage with Venture Global? And what's the progress and expected timelines regarding proceedings?
Yes. So let me start with the CapEx reduction. Out of the PLN 2 billion CapEx estimated drop for this year, PLN 1 billion relates to gross CapEx and indeed, as you mentioned, petrochemical. And whether this is a permanent drop carry over to next year, a lot relates to or depends on the decision that the management team takes on the Olefins project.
And another PLN 1 billion is maintenance CapEx. And here, a majority of the drop is permanent and relate to changes in the scope and timing of our maintenance work and also related to some of our logistics assets and rail tanks, for example. So a lot of detail there, and it was a very thorough update. And you can expect that the drop is rather of a permanent nature.
And then on the Venture Global, no, we haven't received any cargo yet. We, indeed, in the best case scenario expected to receive the first cargoes towards the end of the year. However, right now as we are seeing things, we would rather expect the first cargoes to come later in the first half of next year.
On the arbitrage, it is a very sensitive one to comment. If I remember correctly, when I'm looking at my team, if any of you guys have got some more details, the arbitrators were assigned. There's been a lot of news in the general press on that. But pretty much at least from my side, not much to add other than the proceedings are ongoing. The arbitrators were assigned, and we're waiting for some more developments.
Thank you, Christophe. Anna, please. The floor is yours.
I have several questions, if I may. First will be on the Olefin complex. And could you please correct me if I'm wrong that in the strategy, the previous -- the current strategy, it was only PLN 13 billion of CapEx included for this Olefin 3 complex. So even if you like terminate the project, there will be no significant incremental CapEx cut from it coming to this new number we will see, hopefully, in December. That would be my first question.
The second question will be around the letter of intent of -- with Grupa Azoty. I saw the extension there of the deadline. So I wanted to check what are the current stage of the discussions or negotiations and what options are you checking there?
And the final and more technical one. On the upstream side, after the maintenance over second and third quarter, like what level of upstream production would you expect in fourth quarter?
Anna, on the Olefins project, indeed, PLN 13.5 billion was included in our strategic financial plan. Therefore, you're completely right to say not much of a CapEx plan coming specifically from this project can be expected in our strategic update.
On the LOI, we signed the letter of intent with Grupa Azoty initially for 2 months. And we would like to analyze strategic options related to certain groups of assets, in particular, polyolefins in [indiscernible], also one of the logistical assets on the Polish side and see for production capacity or production installation.
Our -- we currently maintain the same scope of letter of intent, but mostly focus on our analysis on the [indiscernible] project. And obviously, that analysis is quite complex, given the situation of the project.
We already hold 17% of the stake in that company and have got roughly PLN 0.5 billion of capital employed in that project. Therefore, it's in our best interest to make sure that the project continues till successful completion and operations.
We're in discussions with Grupa Azoty about the potential tighter cooperation in the future and hope to finalize our discussions with some more detail, with some more definite feedback for you till the end of the year when the second term, let's say, of our LOI expires.
And on the upstream production, we expect our production volumes to return to the previous quarter levels, roughly. So when you think about the impact of the maintenance, we lost roughly 50% of the daily production on average. So if you recalculate September, simply double the September volumes then you end up with the representative quarter levels.
Next question from Giuseppe, please.
I have a couple, if I may. The first one you've already commented both yesterday during the press call and today, we touched upon many times about the challenging environment for chemical producers in Europe. And looking at your existing portfolio, would you consider closing part of your capacity?
Closing what, Giuseppe? Can you...
Parts of your capacity.
All right. So looking at our portfolio, we've got good assets of very different, let's say, age, class and production capacity. So we've got assets [indiscernible] that are part of integrated value chain together with our refining unit.
Therefore, we can't really make any closure decision on separating the decision from the operations and impact on the integrated value chain. So you need to consider the whole downstream operations of the [indiscernible] unit.
And then we've got our Czech assets, where we got [indiscernible], both those assets struggling with the economics. And we obviously took a deep dive into the economics and future of those assets. No decisions yet, but clearly, very detailed analysis is ongoing.
Okay. Perfect. That's clear. And looking at the projects included in the current strategic plan, how many of them do you believe have prospective returns below the cost of capital?
In the petrochemicals, you mean?
No, like in general among all the projects?
Yes. That's a very difficult question, given the scope of our investments. So let me maybe on a general level comment for each of the segment. I think would be really difficult to get into the detail during this call.
On refining, our key projects aimed at improving the yield of our processing and improving logistics. Therefore, I've got positive expectations related to the return of those assets with the exception of bottom of the barrel in Lithuania. But the negative economics of that project is rather driven by the budget, not by the scope of the project. So we simply had budgets over -- sorry, we had a budget overrun that drove the economics of the project, not the kind of substance of the project itself.
With petrochemicals, I think it's very clear from our previous comments that base chemicals, petrochemicals based on naphtha feedstock, we hardly see any possibility of returning value and hence, the key decisions on the Olefins are so difficult because of the size and the magnitude of the project.
Then when it comes to energy, our key growth investments are CCGTs with very decent returns on capital and renewables with, I think, market benchmark returns on capital. With regards to upstream, our investments include investments in new fields, new operations, providing very decent, again, market benchmark return on capital inflows.
And in the gas segment, investments -- and gas and energy infrastructure asset investments, returns are regulated, therefore quite predictable and transparent.
Ukash, please?
Yes. Could you please tell us that the CEO mentioned that the dividend is to be based on adjusted free cash flows. And what do you want to adjust the free cash flows for?
Let me reiterate our dividend policy. We offered our shareholders a return of 40% of free cash flow or a floor dividend of PLN 4.15 growing by PLN 0.15 each year. That hasn't changed. We are working, as I mentioned earlier, on our strategy update. And obviously, we've got discussions related to our dividend policy and capital allocation.
We are discussing about our dividend but in the direction that I already mentioned, how do we make it more attractive and how do we make it more transparent? I don't think we can make it even more transparent, but more attractive. And if any update, I'll come back to you with the strategy announcement.
So you suggest you will not adjust the free cash flow for anything, yes, because I think the CEO mentioned explicitly that it will be adjusted free cash flow. And I'm sure the previous management mentioned about adjusted free cash flow. So just wanted to clarify that.
And you didn't have a chance to clarify with the CEO what he would adjust it for? So I can't really comment on the conversation that I wasn't part of. And our dividend policy hasn't changed. It is exactly as I said. And if there are any updates, Ukash, we will share in details with the strategy update.
Okay. Okay. And could you please tell us more on the PPA valuation in the gas segment? What can be expected in the next quarters on this matter?
Martin, would you like to take this one?
Yes. Thank you very much for the question. Regarding PPA, PPA is a valuation of the portfolio of gas contracts that were at the time of the merger between ORLEN and PGNiG at the portfolio of PGNiG. So this is recalculated. This is eventually settled throughout the 2 years after the merger.
So that's why we see each quarter an impact of the PPA on the results. And due to the fact that on the Polish Power Exchange, majority of the gas contracts available at -- in 2022 where the contracts fall. 2024 and 2023, we should assume that the effect of the PPA will be eventually resolved in fourth quarter. And afterwards, we shouldn't have any PPA impact on the financials starting from first quarter of 2025.
Okay. And the magnitude of the PPA in the fourth quarter will be similar to the one in the third quarter, yes?
Should be similar to the first quarter impact.
Okay. I have a question to Page 6 on the refining segment. On the waterfall where you mentioned the other effect, can you -- the other effect is PLN 1.5 billion almost. You say it's mostly higher trade margins, but can you tell us what is exactly the effect of trade margins?
There are 2 effects. There are 2 major effects. So let me comment while I don't have a number of the trading margins in -- available on hand. There is another significant impact that -- on the EBITDA LIFO that's important. So the LIFO operating result that's included in here.
And it relates to stocks and historical inventory layers that were utilized in the third quarter of 2023 had an impact -- positive impact on that quarter of 500. And this year, we had a negative impact of roughly 270. So there is a 7 -- sorry, 250. There is a 750 delta related to historical inventory layers utilization included in that PLN 1.4 billion of margin improvement.
So the 750 is negative included in the [ 1 point almost 5-year ] positive impact. So you might expect that the trade margins impact was much higher.
Okay. This implies that the trade margin effect is like PLN 2.2 billion, yes, PLN 2.3 billion, something like that? Okay. Okay. Makes sense.
Yes, something north of PLN 2 billion, yes.
Okay. Just a follow-up on the free cash flow because I just checked your news or official news from [ PAP ], and it's explicitly mentioned that it's adjusted free cash flow. So just to make it clear, for the moment, you're thinking about adjusting the -- I don't know, calculating free cash flow is not -- I mean, you don't want to make any adjustments.
Yes. Yes. I think we realized here as well around the table that my comment was probably not as precise as I would like it to be. Indeed, our official policies have adjusted free cash flows. And I think it provides for some flexibility for the management to select adjustments.
We currently have got no offer or no calculation that we would like to -- or we could because it's not really a matter of willingness, but we could discuss. We are working with the assumption that for this year, it is the floor that we are paying. For next year, we will analyze our strategy, investment plan as well, our capital allocation. And we will present our offer of returns in due course, but the floor is what you definitely can expect.
Okay. Okay. Well, the last question on retail because you gave a very thorough outlook on the fourth quarter. And one thing which stands out, for me at least, is the retail segment outlook where you say it should be comparable year-on-year in the fourth quarter.
And because looking at the third quarter, which was much, much better than looking at the current macro, which is much better, I would expect the fourth quarter to be substantially stronger year-on-year, where you say it should be flat. Could you please explain why so?
Quarter-on-quarter, I think. Quarter-on-quarter, there's some seasonality in retail business as well. So the summer quarters are typically stronger than the winter quarter. But here, our comments are what we expect in the fourth quarter as trends continuing. So we expect retail to provide stable results.
But stable results compared to the third quarter or the first -- fourth quarter of last year?
No, no, no. For the fourth quarter of last year, you're indeed right. There is an increase in volumes related to inorganic growth. There will be an improvement in trade margins related to the, let's say, baseline issues. So lower margins, lower trade margins or fuel margins in the third -- in the fourth quarter of 2023.
So you're indeed right. There are catalysts for improvement when you compare year-on-year. But quarter-on-quarter, we see a very stable performance of our key assets.
Now I'll hand over to Piotr Dzieciolowski.
It's Piotr from Citi. I have 3 questions, please. So first, you've spent a couple of quarters as a new management team of the company. I wanted to ask you about how you're thinking about the strategy update?
Do you feel this group requires a more significant shakeup and refocus on certain things you believe in into the future? Or you think the -- what the previous management created is a multi-energy conglomerate that does everything and doesn't have a clear focus is the right way going forward?
So basically, shall we expect a bit more drastic measures that you take and on the portfolio shape overall? Or that will be a bit of more continuation with a bit of a different numbers going forward?
And second question I have, on this new strategy, do you see a path to a positive free cash flow of the company? Or you think we'll see a bit of a different number on the CapEx and we did a different scope, but still, the company will take on and reach a better or higher leverage going forward?
And finally, I wanted to ask you about your offshore program. You had some cost overruns on the former -- on the existing project, but you're also planning to bid into a new auction. And do you think these auctions will take place in Poland, given the prohibitive price on the levelized cost of energy and the CapEx that is basically very, very high in the Polish circumstances?
Yes, those -- well, some really decent questions and probably can take hours to discuss, especially the first 2 ones. But I'll try to be concise and provide you with our views on the business and road to free cash flow positive.
So let me start with the first one. And it's not an easy answer because I mentioned during one of the pages in my presentation that diversity drives the resilience. Energy market will continue to be volatile through the transition -- energy transition. We are, I think, pretty certain about that.
Therefore, having diversified portfolio of assets in each of the key components of the energy market, I think, is a great advantage to ORLEN. However, what we will be seeking in our strategy update is more focus, as you mentioned, more integration and more derisking of our business model.
So we will be active seeking for partnerships. We will be active seeking for more flexibility in our capital -- in our investment plan. And that is a priority we don't believe has been, let's say, noticed so far to the extent that we would like to prioritize it.
And I think what is the -- what is really critical and what stands out in our strategy discussion is indeed this capital discipline and flexibility is indeed shareholders' returns and making ORLEN more comparable to peers, especially in Europe when it comes to decision-making and business models.
And then also organization, focus and derisking of the model, making sure that we utilize the knowledge and experience with our partners through the energy transition, especially in the -- at the moment when we lack experience or expertise. And I think that's kind of in a nutshell how we think about it and what you should expect from us when we come to present the strategy in December.
On the path to positive free cash flow, here, I don't think we've got such a straightforward answer because indeed, as you mentioned, our leverage is low. Therefore, our cost of capital is rather high. So we see space to see more in-depthness on our balance sheet and more efficient management of the cost of capital.
But on the other hand, with the derisking strategy and partnerships and more of, let's say, less -- because what we believe used to be a very conservative approach of ORLEN was do everything on your own.
We would like to more diversify our presence and partnerships portfolio, therefore, the capital employed will be also different in different types of projects. We see path to free cash flows having that in mind.
But it's a kind of 2 -- there are 2 ends to that question. One is more leverage will make our cost of capital more efficient. Therefore, we would like to see that coming.
On the other hand, less of this independent approach and more opening up to different capital structures of our energy transition projects will free up some capital and lead to quicker free cash flows.
Right. Offshore CapEx question. Thank you, Kuba, for reminding. We currently run -- we are on budget, on time with our offshore projects. So no overruns to be reported as of now and no delays to be reported as of now.
Okay. And can I please have a one quick follow-up on this portfolio? Are there any assets you feel should be shut down or sold because they don't -- or they're unlikely to meet your returns requirement? Just thinking about something different than just a newspaper or this one just like, I don't know. I can mention quite a few, but just wanted to have your feeling if we could see anything like this in the strategy without mentioning exactly which parts of it, but do you feel you could sell something that is, I don't know, over 10% of your EV is shutdown or something like this?
If we're talking about the magnitude of 10s or a dozen percent of our EV, I can't really think of any currently. And of course, the strategy -- when there is a strategy update, kind of keep your eyes open on a new opportunity. But on the asset shutdowns or noncore asset sell-down, I don't think any of the projects that we currently analyze is over the magnitude of 10% of our EV.
Thank you. Tamas, please?
I got 2 questions for you. First of all, you mentioned earlier that the strategy update will be ready by December. Is it still valid? Could we expect this announcement to happen in December?
And in relation to this, do you need the approval of your major shareholder, I mean, the poly state for this new strategy update? Or is it in the scope of purely of the management? That would be my first question.
And my second question is a specific one that's relating to the Czech situation. I know that you have an agreement with Rosneft until the mid of next year, and you want to decouple from the Russian crude. So how is this process going on? Would you be able to do that during the first half of next year? Or how do you proceed with this development?
Yes. On the strategy update, we -- obviously working on the strategy. We follow our corporate governance rules. So it is the management team to propose the strategy to the Supervisory Board. And the Supervisory Board is -- as representatives of shareholders act in that capacity of providing us with guidance and advice on the strategic direction. But that's pretty much it when it comes to the shareholder involvement in the strategy definition. So that -- does that address your question? Or am I missing the point here?
No. Yes, that's understandable. But I mean, yes, the first part of the question was that do you expect this strategy to be ready by December? Or do you need some more time?
We confirmed that expectation yesterday, but still is an expectation and not an invitation. So as I heard our CEO commenting, he left a little bit of, let's say, doubt saying that we're doing our best to make it for the 10th of December to be able to have this conversation with you about our strategy update.
And I can also assure you that the whole team is working hard to make it happen. But obviously, with the corporate approvals process and some fine-tuning at the very end, we might request some additional time. But it is still our internal targets to be able to share that with you on the 10th of December. And can you please remind me your second question?
Yes, that's the Czech situation and the probably...
Yes.
[indiscernible], yes?
[indiscernible] refinery doesn't process Russian crude. So the [indiscernible] refinery and shift from [indiscernible] to alternative crude types. Technically, we are absolutely ready. So the only question mark is logistic, yes, because I saw a reaction from my team.
So logistics is the only question mark, and it's not under our control. So with the model, Czech pipeline operator are responsible for the project. As far as I know, there are no critical obstacles there. However, we can only switch to alternative crude types if that pipeline to Adriatic Sea is up and -- it is up and running, but is enlarged in terms of capacity.
And do you expect this to happen by the middle of next year when your contract with Rosneft expires? I mean that [indiscernible] will be ready.
Yes, we haven't been made aware of any other -- any obstacles or delays. So yes, that's what we expect to happen.
It seems that we have a few follow-up question. Piotr, do you have a follow-up or...
No, no, no. It's just my hand is still up there. Sorry.
Is the same case with you, Ukash, or do you have a follow-up?
No, actually, I have one follow-up. Could you please -- can you comment on gas prices? I mean why do you think gas prices are so high currently? And could you provide some kind of price outlook for next year?
Yes. And I invite the team to add to my answer. The current development of prices we associate to concerns related to supply from Norway. We had some -- we had lower output, I mean, we meaning the European market had lower output from Norwegian resources, from Norwegian assets. There have been several outages impacting the supply, and that's what we associate the higher prices to.
In terms of outlook for the next year, I don't see either significant catalysts or significant contract driver for those prices, rather expect a bit more stability. But please, team, share your comments as well, if I may.
Yes. I'll maybe jump on the wagon here. In terms of pricing for the forthcoming years, we see that at least from a forward curve until beginning of 2026, we see just a slight decrease in prices that will occur on the European market.
This is mainly driven by the competition for the LNG deliveries coming especially from United States, competition between the Asian and the European markets. That's driving prices currently up.
And with, of course, the peak of the prices after beginning of 2025, we should see the gas prices in Europe to decrease slightly from around EUR 45 per megawatt hour to a range of EUR 40 per megawatt hour.
And significant drop maybe -- may occur in mid of 2026. This is mainly due to the increasing capacity of liquefication terminals in United States. So with the higher supply, then we can expect prices to go down as the competition between Asian and European market will eventually diminish.
So that's our view on what's currently happening in the market. And of course, any kind of disruptions that Magda mentioned, especially in terms of local production in Europe, may increase prices in short term further. So keeping fingers crossed for no such disturbances in the market just to have this price range maintained for coming year.
So to sum up, you're saying that you believe prices -- gas prices in next year or at least in a few quarters should be stable and should remain at relatively high levels, more or less, yes? That's what you're saying.
Relatively similar to what we see right now, right?
Thank you very much for your questions. It seems there are no follow-ups, no further questions. I think we will be concluding.
Thank you for the effort. Thank you for your time, for listening to us. Should you have any follow-ups, we do invite you to get in touch with our IR team. And see you on the Q4, if not before on the road.
Thank you so much. Have a good day, and see you in Q4.
Thank you.