Lotos Group initiates expansion plan

Deal with Lockheed Martin will not only double the refining margins, but more crucially, will strengthen Lotos's embattled position

By Kamil Tchorek

Lotos Group has signed a bilateral agreement with the Czechowice Refinery in southern Poland. Czechowice will produce lubricants and oils that can be sold under the Lotos Oil brand name. The event marks the successful start of a two-year Lotos Group expansion plan that will start with a raft of refinery buy-ups.

The Czechowice deal is among a group of three southern refineries, including Glimar and Jasło, which Lotos plans to acquire this year, in order to double its motor fuel distribution capacity within two years. The refineries have a network of around one hundred gas stations which sell the refineries' produce. Lotos will begin cooperation with the outlets, leaving them a degree of business autonomy.

In July, the State Treasury decided to sell the refineries to Lotos, instead of Orlen or any other major competitor. "We have an exclusivity agreement with the Trade Ministry," says Lotos Group's Marcin Zachowicz. "For that reason, we don't fear that foreign or domestic competitors will be able to buy the refineries and gas stations before we do. It is possible to see this as an anti-monopoly measure; it bodes well for our company in that we know that the government will, in this way, assist us in our growth."

In mid September, Lotos signed the first part of a $540 million agreement with Lockheed Martin and Kellogg Brown and Root, part of oil-services behemoth Halliburton, to process sulphur-heavy oil for the production of cleaner fuel. The deal became the first major highlight of the 'business-for-F16s' offset program with the United States. David Wood, representing Kellogg, was reported as saying that any delays in the agreement would only be a postponement of the inevitable.

In a press statement, Lotos said that the US investment should increase annual refining margins to around $279 million in 2006, from around $117 million today. Currently, PKN Orlen refines three times as much crude oil as Lotos. Lotos will try to process Orlen's waste at its processing plant before importing heavy fuel supplies from abroad.

However, Orlen has been trying to buy up Lotos for more than a year. "Lotos has won the battle but not the war," says Marek Strzelecki at the Dow Jones Warsaw Office. "It lobbied the government to stop Orlen buying them up and succeeded. But they based their lobbying on the facts: the facts that their financial results since 2001 are excellent, and that they are not affected by the image of financial impropriety that Orlen has, to some extent. In the climate of the Rywin trial, that is important."

Aside from the two-year expansion plan within Poland, Lotos is also looking to its export opportunities. The offshoot named Lotos Baltija based in Kaunas currently sells lubricants in Lithuania and Latvia. "Our activity there certainly will be helped by the EU doing away with trade barriers," says Zachowicz, "We plan to expand into Belarus and Ukraine too, but we are well prepared for EU accession. The biggest concern for us are the clean fuel requirements that will come into force in 2006, so we have decided to be prepared earlier. We are already up to that standard."

Aside from the purchases in southern Poland, Lotos must complete around another 150 gas station purchases or constructions on greenfield sites.

Once known as Rafineria Gdanska, Lotos is still entirely state owned, and is Poland's second largest fuel company, with a crude oil capacity of 4.5 million tons per annum. The processing project will raise the figure to six million tons.

At this stage Lotos prefer not to comment about their intentions on the stock exchange.