Moody s Ratings upgrades SOCAR s rating to investment grade

BAKU, Azerbaijan, July 12. Moody's Ratings (Moody's) has upgraded to investment grade the rating of State Oil Company of the Azerbaijan Republic (SOCAR) by assigning Baa3 long-term issuer rating and withdrawing the Ba1 corporate family rating and Ba1-PD probability of default rating, Trend reports.

The ba2 Baseline Credit Assessment (BCA) was affirmed. The outlook was changed to stable from positive.

Today's rating action is in line with the sovereign rating action and reflects SOCAR's strong credit linkages with the state as well as its significant exposure to Azerbaijan's operating and macroeconomic environment. The rating action reflects the company's healthy financial performance and credit metrics amid a tepid oil and gas market environment. It also incorporates SOCAR's strategic importance for the government of Azerbaijan and a track record of more discipline in strategic and shareholder decisions, investment spending and shareholder distributions. The rating also factors in lacklustre upstream operating performance, and limited transparency and complex group structure. The stable outlook reflects our view that a sovereign upgrade to Baa2 alone would not suffice for a positive rating action on SOCAR without some strengthening in its standalone credit quality and material improvements in its transparency, disclosures and predictability in decision making.

The sovereign upgrade reflects improvements in institutional effectiveness, proven through a lengthening track record of maintaining macroeconomic stability through recent shocks and oil price swings. Ongoing progress in regulatory reforms has enhanced banking sector stability, while continued commitment to reducing fiscal reliance on hydrocarbon revenues strengthens fiscal resilience. Azerbaijan has also made further progress on economic diversification, with prospects supported by rapid growth in the transport sector.

As a result, operating and macroeconomic environment for SOCAR has improved and the government's financial capacity to support the company, if needed, has strengthened, which is credit positive for the company.

Given that SOCAR is 100% state owned, we apply our Government-related Issuers (GRI) methodology to determine the company's rating. SOCAR's Baa3 issuer rating incorporates (1) the company's BCA of ba2; (2) the Baa3 issuer rating of the Government of Azerbaijan; (3) the very high default dependence between the state and the company; and (4) the high probability of the government providing support to the company in the event of financial distress.

While SOCAR's financial performance weakened in 2023-24, compared with a record high in 2022, as the average brent crude oil price declined to $81-$83 per barrel from $101 per barrel over this period, it remains sound. The company's Moody's-adjusted EBITDA margin was 9.1% in 2023 and 10.1% in 2024, compared with 11.8% in 2022, 8.7% in 2021 and 6.2% in 2020. SOCAR also generated positive free cash flow (FCF) for the fourth year in a row thanks to solid operating cash flow, moderate capital spending and modest shareholder distributions. We expect the company's profitability and cash generation to remain stable in 2025-26.

The rating action also reflects SOCAR's sound credit metrics. Its gross leverage increased to 2.9x in 2024 from 2.4x in 2023 and 1.5x in 2022 but was below 3.4x in 2021 and 5.2x average in 2018-20. The increase in leverage in 2024 was driven by the consolidation of Southern Gas Corridor CJSC (SGC, Baa3 positive) in December 2024, as all debt and almost no earnings of SGC were included in SOCAR's financial statements that year. Gross leverage is likely to remain below 3.0x over the next 18 months under our oil price assumptions of $67 per barrel in 2025 and $65 per barrel in 2026. RCF/net debt should also remain healthy at around 30% in 2025-26 but lower than it was in the past. Finally, debt/book capitalisation continue improving gradually towards 25% in 2026 from 35% in 2022-24 and more than 40% in 2019-21.

The company's liquidity is sound. Its cash balance and deposits of AZN13.1 billion as of year-end 2024, forecasted cash generation of around AZN2.3 billion over 2025-26 and new debt already raised in 2025 of around AZN5.9 billion should be sufficient to cover estimated debt maturities of AZN15.0 billion and AZN2.2 billion of M&A over this period.

At the same time, following some period of stabilisation in hydrocarbon production, SOCAR reported a decrease in its oil and gas production by 3.8% and 8.3%, respectively, in 2024, which represents a concern. However, the company views this decline as natural short-term volatility in operating performance and expects stable production volumes in the medium-to-long term. In addition, to support its oil and gas output, SOCAR has embarked on international upstream expansion as demonstrated by debut acquisition of a 3% participating interest in the Umm Lulu and Satah Al Razboot offshore oil concessions from Abu Dhabi National Oil Company (ADNOC) in 2024 and a 10% stake in Israel's Tamar offshore gas field in 2025.

SOCAR's credit quality also reflects its (1) key role in the oil and gas sector of Azerbaijan and its importance to the national economy; (2) close links with the Azerbaijan government, which has accumulated substantial reserves and should be in a position to provide financial support to the company if needed; (3) more discipline in strategic and financial management of the company, which was demonstrated by the state in recent years; and (4) the government's supportive approach to SOCAR as demonstrated by a recent transfer of control over SGC, a sizeable upstream and midstream business, to the company.

However, the company's rating also takes into account its (1) sizeable trading operations which reduce its consolidated margins, inflate leverage through the use of short-term debt and limit predictability of financial results because of the inherent volatility of these activities; (2) governance considerations, including its complex organisational structure, limited transparency and disclosure, and concentrated ownership which may lead to rapid changes in its strategy and financial profile; (3) high operational concentration in Azerbaijan; and (4) potential need to support its various investments, such as Petkim Petrokimya Holding A.S. (Caa1 negative) which is 51% owned by SOCAR.

In addition to governance factors mentioned above, SOCAR has very high exposure to environmental factors related to carbon transition risk as decarbonisation efforts and the transition towards cleaner energy continues.

The company also has high exposure to social factors, mainly driven by demographic & societal pressures and the push for responsible production, which are common for oil and gas companies.

Overall, ESG considerations do not have material impact on the current credit rating. The company's environmental, social and governance risks are mitigated by the high probability of government support in the event of financial distress.