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investments in the Power generation in Italy. Despite the reduction of our presence in regulated business, the actions that will be implemented during the next 4 years will provide by 2008 a cash generation in line with the cash generation of 2004.
Thank you very much, and now I hand over to Mario.
MARIO TARABORRELLI, COO ENI REFINING AND MARKETING DIVISION, ENI: Thank you, Luciano, and good afternoon ladies and gentlemen. Let me start saying that I'm very pleased to here today to comment for the first time on Eni Downstream business.
The European scenario in the Downstream Oil sector is marked by the decline of gasoline consumption, the increase of diesel oil consumption due to the expansion of the diesel car pool, the decline in fuel oil consumption is a consequence of the natural gas expansion; the increase of the price differential between Light Sweet Crudes and Heavy Sour Crudes, due to the declining fuel oil consumption; the lower sulfur content of the oil product and the expected of Crude oil from the Middle East; the improvement of gasoline in diesel oil quality as to the sulfur content, 50 ppm in 2005, and 10 ppm in 2009. Finally, the increasing attention paid by governments and public opinion to environmental matters.
The face of this scenario will confirm the strategic guidelines presented in the past years. In particular in the Refining segment, we are enhancing our competitive position by increasing the conversion capacity, along with the flexibility of our refining system. At the same time, we are strengthening the vertical integration- refining, logistics and marketing - through the reduction of the refining capacity in excess of our retail sales in order to achieve approximately a 3 to 1 ratio of refinery throughput to sales in Italy in line with the industry average.
As to marketing, first of all we will upgrade and enhance the distribution network in Italy, expanding the non-oil business, selling 2b products, and increasing the average throughput.
Secondly, we are completing the expansion of the European network, concentrating our efforts in selected regions.
Finally, we will maintain a strong focus on cost reduction on all business segments.
As to the Refining activity in Europe, in 2008, Eni will be running 5 fully owned refineries and we'll own an interest in 4 refineries for a total capacity of 35m tons approximately. And the total throughput, including semi-finished feedstock, in excess of 38m tons per year.
In line with the -- with our previous strategy, we will complete the reduction of the FOB capacity through the disposal of our participation in the Priolo refinery in Sicily. On the other hand, we will further increase our overall conversion capacity so that the conversion index will increase from 56.7% recorded in 2004 up to 63% thanks to focused investments in our refineries in Italy.
Efforts to improve the Refining performance will be concentrated in Italy. We are improving the efficiency of our refineries and increasing the conversion capacity in order to maximize the Gas-Oil yield of our refineries. In 2004, this conversion index was 61%. Significantly higher than the European average which is 33%. In 2008, this index is expected to be slightly above 67% as a consequence of the completion of the Tar Gasification Unit, which is now under construction at the Sannazzaro Refinery, and the construction of new conversion units at the Sannazzaro and Taranto refineries.
The continuous improvement of our Refining system will also allow us to maximize the value of our Equity Crude vis-à-vis the spot market. Consequently the volumes of Equity Oil processing in our refineries will pass from approximately 31% of the total in 2004 to more than 36% in 2008.
Our Refining systems strongly oriented to products for transportation has already reduced the Fuel Oil yields in order to meet the market trend. Fuel Oil yields will be further reduced from 14% in 2004 to 11% in 2008. On the other hand, we invested and will be investing in all -- in our Refineries to increase high quality middle distillates yields from 41% in 2004 to 44% in 2008.
According to our program we will increase the conversion capacity through -- to the following main projects - the Tar Gasification Unit at Sannazzaro Refinery that will allow to reduce Fuel Oil production and to produce Syngas for the Power Generation Unit in Sannazzaro; Butane De-Asphalting Unit at the Sannazzaro refinery that will let us increase the conversion of the an -- of the heavy [end of the barrel, without increasing Gas - Gasoline yield; High Pressure Hydrocracker at the Sannazzaro Refinery, with a capacity of 1.5m tons per year to produce high quality gas oil, and the High Pressure Hydrocracker at the Taranto Refinery with a capacity of 900,000 tons per year to produce, once again, high quality gas oil.
With these new investments we will increase the flexibility of the Refining system, along with the conversion capacity, having the possibility to process a wider range of Crude Oils and selecting the most profitable 1 - profitable ones, according to market situation. Overall capital expenditures related to this project are expected to be approximately E430m in the period 2005-2007.
Let me now turn now to the Retail segment. Eni's Retail business will significantly enhance its efficiency and will achieve a more balanced sale -- sales mix between Italy and Europe. In the domestic market, we confirm our strong competitive position, while in Europe we will increase our market share in selected areas. By 2008, we will achieve an overall retail sale of approximately 19b liters per year in Italy and some selected European regions, with a strong integration with our business in Italy.
Now, having completed the restructuring of the network in Italy with the shutdown of the less efficient service stations, we are targeting a 6% increase of our Retail sales in 2 -- in the period 2004 to 2008.
As to the Retail network in Italy, we are strongly committed to a remarkable improvement of the efficiency and quality of our service stations. In the past years, we remarkably reduced the number of stations, shutting down the less efficient and the less profitable ones. Our target now is to achieve a high quality retail network with a market share of approximately 30%. Such market share is to be achieved in order to comply with Antitrust Authorities rules and guidelines.
Non-oil activities will be enhanced. In Italy, in 2008, more than 70% of our service stations will be running non-oil business compared to a market average in Italy of less than 30%.
As already outlined in past years, the strategy in the Italian market goes along with growth in nearby European regions. We are concentrating our efforts in regions where we can take advantage of, first of all, our strong supply position, and from the continuity of the brand.
Growth in these regions has been pursued through a number of acquisitions, as you know. In these target regions, we expected to achieve a market share in the range of 8 to 10% on a regional basis.
The improvement of the retail performance is highlighted by the continuous increase of the official indexes, as the productivity index and the average total. The latter will go up to about 2.8 million liters per station in 2005, fully in line with the European average.
Recently, we have also the launched new Premium Products, BluDiesel, the gas which is improving G&G environmental performance. It's a good example of extracting value from our integrated, the refining logistic and marketing chain.
BluSuper is a premium gasoline which improves engine and environmental performance. Both products are aimed, first of all, at increasing the loyalty of our customers.
Sales of BluDiesel have exceeded the 20% of our gas oil sales in 2004, with 4,000 stations selling this product. And we expect BluSuper to exceed 12% of our gasoline sales at the end of 2005 with more than 33,000 stations selling this product.
Finally, a few comments on our Capital Expenditures. We confirm our strong discipline and selectivity in investment activity with priority given to the improvement of the conversion capacity and to the retail network. We are also strongly committed to investments related to environmental issues.
In 2005 and 2006, we will be investing for the completion of the gas extraction plant in Sannazzaro, the hydrocracker and the butane, they are starting, once again, at the Sannazzaro refinery and 4 hydrocrackers at the Taranto Refinery.
The 2 hydrocrackers are aimed at increasing the gasolines and improving the quality of this product. Improvements in the logistics activities are also envisaged.
As to the retail network in Europe, we will be investing approximately E350m in the planning period, including acquisitions.
That's the end of my presentation. I give now the floor to Marco Mangiagalli who will comment Eni's financials. Thank you very much.
MARCO MANGIAGALLI, CFO, ENI: Thank you, Mario. Good afternoon, ladies and gentlemen. Before commenting what I have am -- have planned to comment, I would just like to mention that we have been informed that we have reached a new high in our share price, which permits us to tier 2, as the first figure, which was something which we hoped when we were preparing our papers. I must admit, I don't know where we stand presently. It was our presentation which ruined the [figures] and the results, which were prepared with our people.
Having said that, I now comment our full year financial results, starting with a quick overview of the market environment.
As you know, in 2004 commodity prices proved to be quite high by historic standards. Oil prices in dollar terms, the highest since the beginning of the '90s, were supported by continued strong oil demand, mainly generated in the U.S.A. and in China, and concerns about supply disruption.
In addition, we see the commercial inventories remained low relative to 5 years average, even though OPEC production has increased.
In particular, 2004 showed a strong trading environment, both in terms of oil price and refining margins. These positive effects were only partially offset by the appreciation of the euro versus the U.S. dollar in the period.
The reported net income in 2004 amounted, as Vittorio just said, to E7.3b, up 30% if compared with last year, thanks to the E2.9b increase in the operating results mainly as a consequence of the strong performance in the core business, as well as of the good results achieved in the Petrochemicals business. And the higher income from investments, mainly related to stronger contribution from subsidiaries, accounted for the with the equity method and higher dividends received.
Such positive factors were partially mitigated by higher taxes, mainly as a consequence of the pre-tax profit increase, and by higher net extraordinary expenses.
The net reported income includes a net positive special item for around E600m.
Adjusted net income totals E6.7b, with an increase of 31%, thus achieving the all time record in Eni history.
In the fourth quarter 2004, reported and clean net income amounted to around E2.2b and to around E2.3b respectively. The increase versus the same period of 2003 was approximately 42% on a reported basis, and approximately 79% on a clean 1.
In 2004, the EPS in euro increased by approximately 31% on both reported and adjusted basis it compared with the last year, while, in dollar terms, it showed an increase of 44%.
Turning to cashflow per share in euro terms, we see an increase of more than 13% on a reported basis, and of around 15% on a clean basis. Again, in dollar terms, the increase is of 25 and 26% respectively.
Eni 2004 reported operating income, leveraging on the positive market scenario and good industrial results, amounted to around E12.5b. We had a 31% increase versus 2003. Excluding special items, the 2004 operating income increased by 25%.
If we add the effect of the euro appreciation versus the U.S. approximately E970m, of which E480m related to the translation effect, the increase of the clean operating income on a yearly basis is in the range of 35%. It is worth saying that the negative impact of the euro appreciation versus the U.S. dollar is mainly related to the upstream business.
In the fourth quarter of 2004, the operating income, excluding negative special items for approximately E145m mainly related to upstream and natural gas business, totaled E3,839m, up 45% versus the same period of 2003.
Once again, if we add the effect of the euro appreciation versus U.S. dollar of E240m, the increase in the clean operating income is of 54%.
Let me now go into more detail for each business segment, focusing on the fourth quarter results.
Let's start from the upstream where fourth quarter 2004 reported operating income amounted to E2,298m, with a 67% increase if compared with a corresponding period of 2003. The result includes a net negative special items for E74m related to asset write downs, mainly in the U.S.A. and the U.K., partially compensated for by gain on assets disposal.
On a clean basis, operating income amounted to E2,372m, showing a remarkable increase of 62% over the same period of 2003. This result is mainly related to higher hydrocarbon evaluation prices, denominated in U.S. dollars following the positive volume asset scenario, higher production sold. As a result, our hydrocarbons realization prices, they did not increase as much as the market, reflecting a wider light heavy crude oil differential.
This positive effects were partially offset by the 10% appreciation of the euro over the U.S. dollar.
If we turn to the full year, the reported operating income reached E80b, up by 40% versus 2003. Excluding special items, the increase is in the range of 33%.
Turning to the G&P division, Luciano has already extensively commented on the main drivers of the fourth quarter operating results. I, myself, will then focus on the full year 2004 in which the reported operating income decreased by 4.5%.
The main factors were the already commented less favorable scenario, a lower contribution from marketing and distribution activities in Italy, partially compensated for by higher results in marketing abroad, the robust performance of the transportation activity, both in Italy and abroad, and the contribution of power generation.
Let's now turn to the R&M sector. The reported operating income in fourth quarter 2004 amounted to E410m, up more than 280% if compared with the 2003 results. This increase is due to the strong contribution of the refining activity in Italy, related to the high level reached by refining margins into higher processing in our refineries, partially offset by the euro appreciation versus the dollar.
In 2004, the R&M operating income reached E965m, up by 65.5% versus 2003.
In the fourth quarter 2004, the Petrochemicals business, namely Polimeri Europa, posted an operating income of E151m compared to the operating loss of more than E60m in the same period of 2003. This result was mainly due to higher margins related to the demand recovery, to the better industrial performance, to lower asset write-downs as well as higher volumes sold.
In the fourth quarter 2004, the Oilfield Services and Engineering reported operating income amounted to E83m, with a 9% decrease if compared to the same period of 2003, mainly as a result of the lower contribution from the engineering activity.
In the fourth quarter 2004, the E58m operating loss in Other Activities is related to the Syndial E73m negative result, which, anyway, was better than last year's results.
The 2004 capital expenditures reflect our strategy focused on growth in the core business. The full year CapEx were around E7.5b with a decrease of around 15% if compared to last year, mainly as a result of the appreciation of the euro versus the U.S. dollar which had an impact in the range of E500m, and the completion of the Green Stream project in the Gas & Power division, which had an impact of about E300m. In particular, E4.9b, 65%, were invested in the upstream sector because of the development of large projects in Libya, Iran, Angola and Kazakhstan and because of the exploration activity.
In the Gas & Power business, capital expenditures amounted to E1.4b, mainly for the upgrading of the transportation and distribution network in Italy, the completion of the Green Stream project and the Powergen development.
Financial investments totaled E316m, a sharp decrease from the level reached in 2003 when, as you may remember, we lowered the public offering on Italgas, we acquired Fortum and we also acquired 50% of Union Fenosa Gas.
As a result of said investment policy, we posted an increase of our capital employed in the core business. The overall net capital employed increased by around 2% to E42.7b if compared with 2003 when we had E41.8m.
In 2004, the operating cash flow was E12.4b. The disposals have added E1.8b, bringing the overall sources of cash to E14.2b.
We have reinvested E7.8b including E0.3 in financial investments, and we returned to our shareholders around E3,000m via dividends and, under these circumstances, we strengthened our financial structure. The net financial debt decreased to E10.2b, bringing our debt to equity ratio to E0.31, well below our 0.5 ceiling.
Coming to the end of my presentation, I would like to make a comment on the IFRS.
In general terms, we can state that the new accounting standards will have no impact on either Eni strategy or financial targets. That we do not expect any cash impact and, evidently, that the IFRS are more in line with the U.S. GAAP, under which we already report for 20-F purposes.
On the other hand, as you know, the new accounting standards will be implemented starting from January 1, 2005, thus requiring, for comparison purposes, the restatement of the 2004 financial statements, including quarterly results.
Pending a final audit opinion, which we expect for the end of this month, I cannot anticipate any precise figures. To this regard, we can adjourn to a conference call which is currently scheduled for next April.
Thank you for your attention. Now, Vittorio and all of us will be pleased to answer any questions you may have.
As usual, we can start from the floor, then we will open to the ones attending from the conference call. Down there.
UNIDENTIFIED AUDIENCE MEMBER: [Inaudible - microphone not working]
MARCO MANGIAGALLI: The microphone is not working. The microphone is not working. Can you say again? Thank you.
NEIL MCMAHON, ANALYST, SANFORD BERNSTEIN: Hi, it's Neil McMahon. I'm from Sanford Bernstein. That sounds better. No, I've got a question on Kashagan and 1 on refining.
Just on Kashagan, it looks like your export options, as you go forward into the next decade, looks significantly higher costs than they may have initially been, if a route through Iran had been approved. Could you comment on the additional cost that could be incurred by a phosphorous bypass and a route to China?
Secondly, on refining, could you tell us, in a bit of detail, the utilization rate you would expect as you go out towards 2008, and where you are going to close the capacity to reduce your overall throughput by that point? Thanks.
STEFANO CAO: Let me start with the reply on transportation cost for Kashagan. As you might recall, at the time of approving the project, we had set in our evaluation scheme a transportation cost rather than an actual investment against any construction. The transportation cost, which was $4 per barrel, which will -- we still consider a reasonable level of transportation cost in terms of the present evaluation for a number of available routes.
You have seen that we have shown the routes which go north, south and west and east. Just to give you a few comments on -- indicative comments. The route going to east, the so-called Chinese route, we would certainly not seen as a route with costs higher than what we have included. [VPC] route, we would certainly consider as within the level which we have consider.
You made a comment on -- a fair 1, a fair comment on the bypass cost. In that case, you, I think, you have to consider something like an additional, say, a dollar per barrel more. But, bear in mind that the E1.2m of the Kashagan production, it will not all be transported through 1 route. It will be a combination of different alternatives.
So, I think, overall, we will not expect a dramatic change in the figure which we have considered.
Something different is what you have called the Iranian route. That is, by far, the route which, technically, makes more sense than any other route. Of course, we do not discuss it. For the time being, that is not something which can be taken into account. It's a 40 years life for the field. Sooner or later that might certainly become 1 of the most attractive routing, either through a partial transportation through the Caspian Sea, and then a sort of swap between oil in [Necker], which is the harbor, the Iranian harbor, in the Caspian Sea, and [Kargylan] on the Persian Gulf.
That certainly could be an attractive option. The reason why it's not shown is that, for the time being, politically, this is not considered.
NEIL MCMAHON: Just as a very quick follow-up. Surely, you're going to take a realization hit as well on the liquid as you're pushing more of those liquids through Russian than you would have done if you'd had taken a more southern route. Has that had any major impact on your budget economics, given the realization that you would expect in liquids in Russia versus on the international market?
STEFANO CAO: As I said, you should not concentrate -- I mean, the idea is not to put all the eggs in 1 basket. So, there might certainly be a portion of production will go through Russia. Then, of course, that will be subject to a negotiation with the owner of the transportation system in Russia. Some of the oil might be stopping in the Samara Refining, as I was showing in the slides.
So, I think, at this stage, at the time of approving the project, we could not specifically set each and every case. So, we had to make a judgment, and I have given you the basis for the judgment we have made. And, overall, we don't think that this is out of reason.
MARIO TARABORRELLI: As to refining, to say that the available capacity in the present tight market situation is 100% utilized. As I said the available capacity because during a year, we may have some sort of maintenance turnaround. So some -- there's some capacity that is not available because of legal or, say, because of weather -- legal procedures or weather conditions.
Basically, including maintenance or other shutting of the refineries, the utilization rate is in the region of 95/100%.
[Indiscernible].
TIM WEST, ANALYST, LEHMAN BROTHERS: Tim West here at Lehman Brothers. Firstly, Senor Mincato, I think may possible to your last strategy presentation, so I want to congratulate you on the achievements of the last 2 years.
I have a question for GNP and a question gas. On GNP, Stefano, you showed -- or you said a hurdle rate between 11 and 17%. Can you comment whether that's real or nominal and whether its IRA or some form of a turn on capital employed basis? And could you say what it is preventing you spending more, bearing in mind your capital spending has come down? Is it because you don't have enough projects within that range?
And my question on gas relates to the statement that you said that cash would be the same on '08 as '04. Is that after CapEx, or is that before CapEx? And have you changed your view as to the rate of margin erosion in the domestic market in the gas business?
STEFANO CAO: In terms of hurdle rates, first of all, let me underline the fact that, as I am sure you have realized, we are trying to apply -- up to last year, we were saying 15%. That's exactly how the rate of all our new projects which was based on the scenario for short term and long term scenario. You remember that the scenario was, real terms we were at the time talking about 16% on the long-term. But dollar [2000] we are now talking of an upgraded scenario. You might think that the $2 upgrading is not, you know, really significant in terms of increase of the long term scenario. But, at the same time, as I was trying to explain, we have applied a different methodology to establish what are the limits beyond which, the limits in terms of IRR, for our projects to get the approval.
So, what we said is that, of course, we start from -- the starting basis is the weighted average cost of capital. Then, we have made an assessment of each and every country where we have, or we plan to have, new projects, and that is based on an in-depth analysis which has been carried out by us but with help and assistance of a recognized expert in the matter.
On top of that, we have added a certain allowance for a sort of business premium, which is something which is a bit softer to understand. But this is the cases where you are in a situation where you have very good strategic reasons to launch a project. I think a good example is Kashagan in itself, because of the size, because of the operatorship, because of the importance of the reserves. Then, we have also applied a certain portion of the internal rate of returns to this.
So, overall, from a system which was planned above 15%, they slide below. It does not slide now and we have a more different. This, as I said, also be seen in conjunction with a scenario which has been increased.
Is that the end of it? Of course, not. Then, when we analyze the project, we work on the sensitivity basis and we see what is the change in case of 1 or more dollar, or less dollar, on this scenario.
So, the analysis is a much more thorough and comprehensive analysis.
Is there the risk of canceling certain opportunities? Quite frankly, our view is no. But it can be combination of the methodology which we have put in place. We don't believe that we are going to lose opportunities.
It is fair to say that, going forward, in general terms for the oil industry, the opportunities, the number of opportunities, are going to reduce. But this is a common problem for the whole industry.
LUCIANO SGUBINI: The cash generation about the GNP of the second question, 2008 we are boosting our cash generation by 2 main activities. The marketing activity abroad, they are the big contribution which came from transportation activity abroad. So, where we plan to grow significantly.
Take in consideration the [Tikret] stream is just started and the plateau of the transportation will be reached in 2006. So, this will create -- will give a significant contribution to the cash generation.
So, basically, we plan to have the same figure that we had last year with a contribution of these 2 activities.
TIM WEST: Is that after CapEx or before?
LUCIANO SGUBINI: The CapEx already --