Overview of Azerbaijan Petrochemical Projects

April 2017

Contents

• Prospects of global petrochemical sector growth

• Current projects of Azerbaijan petrochemical industry

o SOCAR GPC

o SOCAR Polymer

o Upgrade of Heydar Aliyev Refinery and Azerikimya Production Union

Prospect of Global Petrochemical

Sector Growth

Petrochemical agenda until 2030

▪ Petrochemical industry provides circa 100 kg of products per capita. These products are applied in every field of human

activities. Primarily, these are polymers (different sorts of plastics, rubbers and fibrous materials) covering almost 70% of the

product volumes.

▪ Since 2000 petrochemical industry has accumulated quite a potential: EBITDA annual growth is around 4% which is $45

bn

– Increment in profit at production stage coming from cheap feedstock from the Middle East and North America

– New market players should catch the profit coming from rapid development of the petrochemical industry.

▪ 2030 forecast says we can expect a number of serious problems and shortages market players will have to overcome

– Most likely the forecast will be based on the completion of the current cycle and slowing down of the market growth

associated with basic characteristics (GDP and market saturation)

– Tested cost factors will become inaccessible by many; and it’s not clear where the next batch of cheap feedstock will be

found, while the future growth will still be based on developing markets where, it seems, new players are in charge.

– Potential failures: the segment will experience a number of failures, in particular – the complications resulted from the

transition to cyclic economy.

In general, industry profitability level has been quite sustainable until now, in spite of the decrease of oil prices

Ethylene, USD/t

80

500

1,000

140

1,500

4020 16060 12000

100

1,353

1,500

140

500

1600

1,000

40 12060200 10080

975

Actual capacity1

Actual capacity 1

China - МВО

Europe - LG

China - LGM. East - Gas

Ch - LG

China - HC

Other

countriesN. America - Gas

$70 bn

(86%)

$ 71 bn

(90%)

Total profit

2013, oil at $103

2016, oil at $50

Profit pool has shifted from the producers of cheap feedstock away, from 70% (2013) to

around 50% (2016)

1. Accounting for 93% load 2. Without CIS

Historically, petrochemistry growth has been ahead of the global GDP growth, with the long-term growth rate of ~ 4%. This trend will hardly stay the same in the future.

Petrochemical sector growth compared to GDP growth, %

-4

0

4

8

12

20152000 201020051995

GDP Petrochemistry1

1 It includes weighted growth rates for the following link chains: methanol, ethylene, propylene, butadiene, benzene, toluene, xylene

▪ Petrochemical industry

growth is more unstable than

that of GDP

▪ GDP growth went down from

3.1% to 2.7%, whereas the

long-term forecast is circa

2.5%

▪ Growth rate of petrochemical

production is also decreasing

from 1.6% to 1,4%

Petrochemical production growth/ GDP growthx

1.6 1.4

GDP growth (CAGR)x

Petrochemical production growth (CAGR)x

3.1 2.7

~5.0 ~3.5

Petrochemical production growth will most likely slow down due to the combination of a slow GDP growth and petrochemical activity plateauing at 2.5-3.5%

Growth of petrochemical product market, % CAGR

▪ Historical growth of

around 4%

▪ Historical ratio

between

petrochemical

products and GDP

growth of around ~

1.5

▪ Let’s consider two

scenarios:

– Historical trend

remains

unchanged

– Relative growth

keeps going down

▪ Growth range will

decrease down to

2.5-3.5%

▪ A too low growth

cap?

▪ Will production

intensification be

enough?

etro1995-2005 2005-2015

2015-2030 upper limit

2015-2030 нижний

предел

▪ Same connection

▪ Demand doesn’t slow

down

4.5

Petrochemistry

3.1

GDP F

3.8

F PetrochemistryGDP

2.7

2.5

FGDP

2.5

Petrochemistry

2.5

FGDP

3.5

Petrochemistry

1.6 1.4

1.4

1.0

▪ Maturity of end

markets and decrease

of potential demand

The next wave of GDP growth will cover new developing markets, including India, Indonesia, and Africa; Iran as a potential demand source?

GDP growth2015-30 CAGR

Demand for petrochemical products (polymers)2015, kg per capita

1 Japan, Korea, Taiwan (actual vol.: 2,000 kg per capita) 2 Strong petrochemical and oil production industries, in S. Arabia in particular

3 African states south of Sahara 4 SE Asia, w/o Indonesia

M. EastS. & N. Americas AfricaEuropeAsia CIS

▪ China and South-East Asia have reached a level of high saturation with

petrochemicals, in spite of export volume

growth.

▪ India and Indonesia are the next attractive regions, but time is needed to engage the full

potential.

▪ Iran is an unexplored map. Though 80 mn people live here, it’s rather a convenient

source of feedstock than a market opportunity.

▪ Africa has a longer-term potential, but it’s

not clear how it will develop its chemical market. Probablyб growing urban extension

will help.

▪ Established partnerships will become crucial, in getting access to all these markets.

25

0

125

50

75

100

8-25

6

0

42

JKT1

Indonesia India

N. America

China

M. East (w/o Iran)

Europe

SEA4

CIS

L. America

С.Африка

Iran

SSA3

Population

by 2030

Next wave of regional growth

Current Projects

of Azerbaijan Petrochemical Industry

GTP

LHPPE,LPPE

Refinery

Azeri-kimya

SOCAR Polymer

Chain 1

Chain 2. SOCAR GPC

LPPE: 120 th t/year

PP: 184 th t/year

2018

2021

PP: 300 th t/year

Production chain

Upgrade

6.5 mn t / year => 7.5 mn t / year

Upgrade

PE:

600 th t/year10 bn m3

Propylene

SOCAR GPC

SOCAR GPC: brief overview

• Location: Qaradag district, Azerbaijan (15 km south of Baku)

• Project configuration: GPP with the capacity of 10 bn m3; steam cracking unit with the capacity of 610 th t

of ethylene and 130 th t of propylene; LLDPE/HDPE production unit with the capacity of 600 th t a year.

• Commissioning in Q1 2022

• Feedstock supply: SOCAR supplies C2+ on the supply-or-pay basis

• Markets: 50% of products will be transported to Turkey. Other target markets are the states of Western and

Central Europe, China, Russia, and Azerbaijan.

• OTC: SOCAR guarantees further purchasing of the full volume of products

GPP GChP

Natural gas, 10 bn m3

CO2: 0.2 bn m3

PP: 120 th t annually

PE: 600 th t annually

Gas get treated and purified as per international standards:

9.2 bn m3

Potential financing options

• Credit availability, low debt cost

State guarantee

• Guarantee of feedstock supply and product off-take, high capital cost (at WACC* = 12% (ratio of

debt to equity 70%/30%), capital cost equals 26%)

Construction-operation-transfer

• Burden on SOCAR balance sheet

Corporate loan

• 30% - requirement to shareholder stock (~$1.2 bn)

Credit secured by ECA

• Guarantee of feedstock supply and product off-take, low weighted average finance cost

• *WACC – weighted average capital cost

Financing without debt guarantee (SOCAR GPC)

Advantages and drawbacks of project financing

Normally, it’s off-balance for sponsor(-s);

Risk is transferred to creditors;

Long term;

Applicable for several investors. Enables

management of financial needs of a partner with

a low credit rating.

Ensures confirmation of vitality of the Project by a

third party;

Mega-project can harm the activities of the

sponsor.

Higher transaction costs (higher risk / higher

leverage / consulting fees)

The longest transaction periods

Loss of project management flexibility

Complex documentation: a 15-page consolidated

statement → 1500 pages of financial documents

ADVANTAGES DRAWBACKS

In the course of Baku-Tbilisi-Ceyhan project, in 2002, BP had to deal with the rejection of the financing method by AMOCO

(project finance vs. corporate finance). Then BP made the following statement:

‘Project finance can become an efficient instrument in risk mitigation for those projects that will be implemented with

attractive economic characteristics, though the sponsor will have a long balance sheet and the ability to manage risks

within the country.’

Baku-Tbilisi-Ceyhan project was successfully implemented though project financing.

SOCAR GPC: target financial structure

• 70% of all funds come from the loan

• Guarantee of С2+ feedstock supply

70%

30%

Source of finance

Principal debt Capital investment

Indispensable characteristic of a project is an EPC LSTK contract

• Minimum financial risks for the customer;

• Cost and advantages of the project are known before the decision to finance it is made (the one that

seems most fit to Creditors);

• Customer performs minimum supervision over the contractor, compared to open-price contracts

(except for QC/QA and schedule discipline);

• Improved control over scope of work (ЕРС LSTK scope is normally more detailed, compared to

reimbursable contracts);

• Contractor prefers more qualified staff;

• Financially, it’s in the contractor’s interests to complete the project as early as possible.

Open-book Cost Estimate

OBCE approach saves 10 months,

the opportunity cost of which can be circa $400-600$

Project schedule

Activity 2016 2017 2018 2019-2022

PMCservice

PMC before FID PMC after FID

GPP, steam cracking unit, co-monomer

techExtended PDD

PE unit tech Extended PDD

FEED for Eng., Constr.

Extended PDD

EPC contract LSTK cost sheet

Finance-related negotiations

Capital investment-related negotiations

• All serious risks will be eliminated before FID:

• CapEx number will be fixed

• Precise OpEx number will be known

• Finance issue will be resolved

• Expenses before FID are 1% of TIC

SOCAR Polymer: Success Story

SOCAR Polymer: brief overview

4

• Location: Sumgait Chemical Industrial Park; the project is released form the obligation to pay main

taxes and customs duties for 7 years;

• Project configuration: HDPE – 120 th t/year; PP - 184 th t/year;

• Feedstock supply: ethylene, propylene and hydrogen will be supplied by SOCAR on the supply-or-pay

basis;

• Markets: at the local market, around 25% of products will be sold, the rest will be exported to Turkey,

Europe and CIS states;

• OTC: SOCAR guarantees further purchasing of the products;

• Work progress: PP – 70.9%, HDPE – 26.3%

• Commissioning dates: PP unit in Q1 2018, HDPE unit in Q3 2018;

Financial structure

• Debt/equity ratio is 60/40 ($489 mn from Gazprombank);

• Being principal shareholder, SOCAR provides a limited guarantee to assign extra funding;

• No project completion guarantee required;

• No debt guarantee required;

• 10 months from the start of negotiations to takedown;

• Creation of a project funding precedent in Azerbaijan

Financing terms

4

The following documents were signed (overall number of documents: 35 )

Financial documents:

o Credit agreement;

o Loan subordination agreement;

o Paid-up capital agreement

Design documents:

o Feedstock supply agreement;

o OTC;

o EPC agreement;

Transaction security agreements:

o Share pledge agreement;

o Assignment agreements

o Direct contracts

Upgrade of existing facilities

Upgrade of Heydar Aliyev Refinery and Azerikima Production Union

Upgrade results in the increase of the refinery profitability:

Objectives of Azerikimya union upgrade

• Refining capacity goes up from 6 to 7.5 mn t annually

• Products will meet Euro 5 quality standards

• Significant increase of light product yield and extra refining

margin

• OpEx optimization

• To produce at least 110 th tons of ethylene and 150 th tons of propylene due to SOCAR Polymer supply obligations

• To switch from naphtha to gas

o Improves production efficiency

o Optimizes costs based on the difference between naphtha and gas

• To improve operational safety of the refinery

Products

2016 ,

actual,

tons

After upgrade,

tons

Gasoline 1,140,000 2,168,000

➢ AI-92 (regular) 1,140,000 1,224,000

➢ AI-95 (premium) 944,000

Diesel fuel 1,882,000 2,916,000

Jet fuel 627,000 984,000

Bitumen 179,000 400,000

C3 fraction (Azerikimya) 181,000

C4 fraction (Azerikimya) 112,500 138,000