2018 Outlook: Cash jaws set to open

Deutsche Bank Markets Research Europe United Kingdom Oil & Gas Exploration & Production Industry European Integrated Oils Date 4 December 2017 Industry Update 2018 Outlook: Cash jaws set to open Project driven cash flow growth ________________________________________________________________________________________________________________Deutsche Bank AG/London Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 083/04/2017. Lucas Herrmann, ACA Research Analyst (+44) 20 754-73636 lucas.herrmann@db.com David Mirzai Research Analyst (+44) 20 754-19002 david.mirzai@db.com Michael Hsueh Research Analyst (+44) 20 754-78015 michael.hsueh@db.com Key Changes Company Target Price RatingREP.MC 12.50 to 14.75(EUR) Sell to HoldSource: Deutsche Bank Top picks Royal Dutch Shell Plc (RDSb.L),GBP2,394.00 BuyBP (BP.L),GBP492.00 BuySource: Deutsche Bank We enter 2018 feeling considerable enthusiasm on the potential for the European oils sector both absolute and relative. No doubt our confidence is helped by the much better feel to commodity markets and a price deck that, in our opinion, affords risk to the upside. Most significantly, however, our positive tone reflects our view that after three very challenging years the major European companies have repositioned their businesses to work in a $50/bbl world and that as the benefit of the cash flows from project starts accelerate, free cash is set for material expansion. In a world that shows very little valuation differentiation preferred names remain BP and Shell. Macro themes – upside risk in oil, gas excess coming, downstream robust Crude: OPEC extension should underpin price in a market that is already moving towards balance and which, post a third year of modest project sanctions is setting itself up for medium term squeeze. Natural gas and LNG: In another 25mtpa supply build year will China sneeze? An ever more important source of end market demand, its growth is needed if Europe is to avoid catching a nasty cold. Downstream: Low product inventories combined with moderate build in capacity suggest a market that should allow refiners to enjoy another cash generative year with IMO a looming underpin. Company cash jaws set to open; Rest in peace the Big Oil scrip Three years on from the price collapse and the heavy lifting has been done. Big oil works at $50/bbl with the much maligned scrip now officially consigned to the coffin. Look to the future and there is much to encourage. Supported by the continuing wave of project start-ups (+$13bn) we expect free cash flow to aggressively expand affording management the opportunity to both reward shareholders and allocate capital to a re-worked set of investment opportunities that our analysis suggests healthy double digit return. A second year of c5% volume expansion, the sector’s cash jaws look set to meaningfully open, sector CFFO rising by over 10% towards $130bn and with growing leverage to the improving commodity tone. Preferred stocks: Shell (Buy 2700p) and BP (Buy 545p) We may stand fairly accused of sounding like a broken record. But between valuation, operating momentum and shareholder commitment we enter 2018 as we ended 2017 with a decided preference for the UK mega caps. A mix of cash flow acceleration, most notably at BP, and total return potential our expectations for yield compression suggest real scope for continued healthy capital appreciation. Within Europe predictability and opportunity underpin our preference for Total (Buy €51) although we recognize the greater FCFY leverage to price at ENI (Hold €14.5) and the potential for performance if confidence in delivery can rise from its current nadir. Following earlier than expect scrip removal and reduced dilution we raise Repsol to Hold (€14.75) but leave Statoil (Hold NOK165) and GALP (Hold €15.7) unchanged. Amongst the large E&Ps, we reiterate our Buy on Tullow (225p) where low capex intensive growth drives c.$500m p.a. FCF at DB deck to help repair the b/s. We think that investors may be looking at the potential for both Lundin (Hold SEK190) and Aker BP (Hold NOK 182) to offer progressive dividend policies over the next 5 years, which we feel stretches traditional portfolio-based valuations. D