Flash Report /

Nigeria: Further oil production cut and weak price movement to weigh on economy

  • OPEC and non-OPEC allies look to announce larger cut in oil ouput

  • Lower oil production and weak price movement will be negative for Nigeria

  • High oil prices may not lead to higher spending due to fuel subsidies

Ayodeji Dawodu
Ayodeji Dawodu

Equity Research Analyst, Industrials

Tellimer Research
6 March 2020
Published byTellimer Research

According to reports, OPEC and its allies may cut a further 1.5mbpd from total oil production, in addition to the 2.1mbpd already agreed on in December 2019, as the international oil market remains bearish. Oil prices have fallen more than 20% from the January 2020 highs on the back of coronavirus (Covid-19) concerns and its impact on oil demand.

If a deal is reached between OPEC and non-OPEC members, it could be positive for oil market sentiments, which could help prices. However, if the potential reduction in Nigeria’s oil production is not offset by higher oil prices, it could have negative consequences for economic activities, government and consumer spending, accretion to reserves as well as the stability of the local currency. 

Pressure on reserves could be negative for local currency and cost of offshore borrowings

Nigeria’s FX reserves may come under more pressure if Brent oil prices do not rise sufficiently to offset the potential reduction in output. This could contribute to a faster depletion of the nation’s reserves, which is down 10% ytd and in turn place further pressure on the Central Bank of Nigeria’s (CBN) ability to defend the local currency. Recently, S&P cited the decline in foreign currency reserves while revising its outlook on Nigeria’s B long term foreign currency rating to negative from stable. 

Lower oil revenues will hinder implementation of the 2020 budget 

In response to the recent decline in Brent oil prices, the Nigeria government announced plans to review the 2020 budget, given that oil sales are expected to contribute 35% to the government’s total revenues in 2020. Historically, weakness in revenues has had a negative impact on the government’s capital expenditure targets, which weighs negatively on GDP growth, business activities and consumer spending. 

Subsidy cost continues to limit benefits of higher oil prices 

With fuel subsidies still in place, oil prices above the benchmark price will be partly offset by higher subsidy payments. According to the Minister of Finance, the government set aside NGN450bn for fuel subsidy payments in 2020, which could potentially increase if we see Brent oil prices rise significantly. Higher subsidy payments will constrain the implementation of the budget. 

Production cuts unlikely to impact Seplat 

Among our coverage, we expect Seplat, and other small indigenous oil and gas production companies to remain exempt from production caps due to difficulties and cost in monitoring smaller players who account for about 10% of the nations’ output. We maintain our Buy recommendation on Seplat with a TP of NGN1,768 and an ETR of 203%. The stock currently trades at forward EV/EBITDA of 1.3x representing a 40% discount to its five-year historical average.

Figure 1: Nigeria oil production vs Brent oil price movement

Source: Bloomberg, NBS, Tellimer