Related Articles
Forward article link
Share PDF with colleagues

Gazprom takes steps to mitigate possible Western sanctions

Western sanctions haven’t targeted Russia’s gas champion – yet. But other forces are bearing down on the company

During talks in Warsaw between the EU, Russia and Ukraine on 2 May, Gazprom’s decision to raise the price that Kiev pays for its gas to $485 per 1,000 cubic metres (’000 cm) from $268.50/’000 cm, Russian energy minister Alexander Novak said: “If we don’t receive pre-payment for June by 31 May, then it is possible Gazprom will reduce gas supplies to Ukraine.” 

 Gazprom claims that by the end of May Ukraine will owe it almost $3.5 billion – an amount Russian President Vladimir Putin said 17 April must be paid in full within weeks. “Gazprom is set to introduce prepayment for gas to Ukraine. This means that the gas supplies to Ukraine could theoretically be stopped in June,” says Dmitry Loukashov, an analyst with Moscow-based investment bank Renaissance Capital.

The Kremlin has often used Gazprom as a foreign policy tool when it wants to apply pressure on Europe, which relies on Russian gas for about 30% of its annual needs, some 40% of which is carried in pipelines crossing Ukraine. Russia has already cut off supplies of gas twice to Ukraine in the past decade over unpaid bills and disputes about prices, which caused shortages in many parts of Europe, so it comes as little surprise the Kremlin has threatened to do so again. 

Shared interests: Gazprom and Russia

“If you assume Gazprom is a political tool, then the Kremlin will use it as a political tool,” says one Moscow-based analyst, who declined to be named.

Because of its reliance on Russian gas, Europe has resisted US efforts to apply so-called phase 3 sanctions on Russia for its annexation of Crimea and continued meddling in eastern Ukraine. However, few are in any doubt, including Gazprom itself, that if a third round of sanctions are drawn up they will target Russian state energy firms such as Gazprom and Rosneft

“An expansion of the US, EU and other sanctions programmes could adversely impact operations and the financial condition of the Gazprom Group,” the company said on 29 April after the release of disappointing 2013 financial results. These showed net profit fell for the second successive year by 7% to $32.0bn, partly on the back of a weaker ruble. Profits fell by 9.5% the previous year.

This is especially worrying for investors, because Europe has actually been a source of good news for the company, despite various troubles. 

In 2013, Gazprom’s sales rose by 10% to 5.25 trillion rubles ($148bn), which was above analyst expectations, as it increased gas exports to European markets to a record 162.7bn cm, up 16% from 2012 and exceeding the previous record of 160bn cm set in 2008. Hence its warning over any new sanctions. 

However, analysts point out that Gazprom’s European holiday is probably over for good. In September 2012, the European Commission launched a formal investigation into alleged price fixing and monopoly practices, which could result in massive fines as well as subsequent lawsuits from individual countries. 

On 26 March, the office of Joaquín Almunia, the European commissioner responsible for competition, said the antitrust investigation was still underway and a completion date impossible to predict, but the timing would depend “on whether Gazprom will offer remedies that fully and effectively address the Commission’s concerns”.

Price cuts

Certainly Gazprom has already made concessions to several European states over the past year, agreeing to big price cuts for countries like Lithuania and Poland, while Russian delegations have reportedly visited Brussels several times this year, though details of the talks have been kept under wraps.

“Expanding exports into Europe in the future will be a harder, and possibly more expensive strategy now, in our view, with additional risks coming from the anti-trust investigation and possible fines,” Renaissance Capital wrote in a recent research note.

The Ukraine crisis has also breathed new life into a pet project of Poland, which has a troubled historic relationship with Russia, to create a single EU buyer and price for Russian gas, which would get rid of the current system of bilateral contracts and improve the EU’s negotiating power, hopefully leading to lower prices.  

“We want a uniform gas price in the European common market,” EU energy commissioner Günther Oettinger said, adding that Europe’s common gas infrastructure should be expanded to include Ukraine, Georgia and the western Balkans.

Diversification of gas supplies is also now high on the agenda, with Europe looking to develop its own reserves of unconventional gas, like shale gas, as well as import more liquefied natural gas (LNG) from producers in the Middle East and Africa, as well as start LNG imports from the US. (In March the US Energy Department conditionally approved its seventh LNG export terminal, though exports remain years off.)

While President Putin was right when he said on 17 April that “it is impossible” for Europe to stop buying Russian gas, it is certainly possible to significantly reduce the level given time. “That isn’t something you can change overnight… but at a political level you will hear a lot more focus on reducing that dependence,” says Tina Fordham, senior political analyst at Citigroup.

So Gazprom is in desperate need of more leverage – which is why the gas supply deal signed between President Vladimir Putin and Chinese President Xi Jinping on 21 May is so important. “We view the deal as positive for Gazprom from a strategic point of view, as it allows it to enter the world’s fastest-growing gas market and will indirectly help in negotiations with European gas consumers,” says Ildar Davletshin, an analyst with Renaissance Capital.

A decade in the making, the agreement is for Russia to supply China with 38bn cm of annual supply over a 30-year period, with a total value of $400bn, starting in 2018-2020. This deal, therefore, adds teeth to Putin’s threat that while Europe talks about greater energy independence from Russia, “we begin to talk and take action towards independence from our consumers.”

As a sweetener, Russia is also looking to involve China in projects that western companies wouldn’t touch with a barge pole, such as Black Sea energy projects off the recently annexed Crimean peninsula, as well as a bridge across the Kerch Strait to permanently link the peninsula to Russia.

A matter of timing

Opening up such a big new market as China comes at a crucial time for Gazprom, since it has invested billions in developing new Siberian fields that Gazprom chairman Alexei Miller said in January will have capacity to produce up to 617bn cm/y. All this gas is coming on stream just as it looks like Europe will be reducing its imports and at the same time as Gazprom is struggling in its home market.

Talk in 2013 that the Russian government was leaning towards breaking up the inefficient and notoriously murky Gazprom appears to have dissipated, though the state company still has to deal with last year’s decision to allow independent producers to export LNG (Gazprom has kept its monopoly over gas exported by pipeline), as well as much tougher competition from those independents at home. Gazprom’s domestic gas sales fell again in 2013 to 243bn cm, down 8.3% from the previous year.

As well as seeing those independents raise their share of the Russian market from less than 15% to over 25%, Gazprom has watched its best industrial customers desert it, enticed by lower tariffs, while Gazprom must adhere to government regulated prices. 

New legislation will allow it to sell gas to industrial consumers for up to 20% less than regulated prices.

The result of all this uncertainty for Gazprom’s business, as well as a lack of dividend payments and proper governance, means investors are avoiding the company, to the extent that it trades at a price-to-earnings ratio of 2.2 times, compared with around 9 times for its domestic competitor Novatek. Gazprom’s shares are down by about 15% since the crisis broke in Ukraine in mid-February when the pro-Russian former president Viktor Yanukovych fled Kiev and Russia decided to act to preserve its interests there; a further ratcheting up in tensions will continue to pressure the shares. “As of now, the Ukraine issue is crucial for Gazprom’s shares,” Moscow’s VTB Capital investment bank said at the end of April. NW

Gazprom Neft boosts profile

Created from the sale to state-owned Gazprom of privately owned Sibneft for $13bn in 2005, Gazprom Neft is one of the world’s 20 largest oil and gas operations, with proven hydrocarbon reserves estimated at 1.34bn tonnes (9.6bn barrels) of oil equivalent (toe).

Its main activities are oil and gas exploration and production (E&P), the sale and distribution of crude oil, and the production and sale of petroleum products via a structure incorporating more than 70 enterprises. Gazprom Neft is the third largest oil company in Russia in terms of refining and the fourth in oil production. It refines around 80% of the oil it produces. Gazprom owns 95.68% of the company’s shares.

Gazprom Neft operates in most of the country’s major hydrocarbons regions,  including the Khanty-Mansi and Yamalo-Nenets autonomous areas, and the Omsk, Orenburg, and Tomsk regions. Its main refineries are in the Moscow, Omsk, and Yaroslavl regions.

After several related deals over recent months, Gazprom Neft announced in April it had increased its stake in Russian gas producer SeverEnergia to 50%, with Novatek owning the other half. The two companies bought a stake in SeverEnergiaheld by Italy’s Eni last November. The move reflects a jostle for position among Russian energy firms ahead of promised reforms in Russia’s gas sector. 

SeverEnergia is forecast to produce over 35m toe per year by 2020, helping Gazprom Neft to meet its target of increasing production to 100m toe per year by 2020. Gazprom Neft says it produced 62.26m toe in 2013. 

In February, Gazprom Neft signed an agreement with Schlumberger to study shale oil reserves in Western Siberia. The deal gives the Russian firm access to Schlumberger’s shale drilling know-how in the assessment of reserves in the Khanty-Mansi autonomous district.

Abroad, Gazprom Neft has refineries in Serbia and also has stakes in international E&P projects in countries including Iraq and Venezuela. The company also operates almost 1,750 petrol stations in Russia, the CIS and Europe. The company continues to seek opportunities in small as well as big markets. Earlier this year, Gazprom Neft agreed a deal with Egyptian car maker GB Auto to help it expand into Egypt’s lubricants sector. 

Also in this section
South Sudan's oil suitors still skeptical over security
11 December 2018
Major investments in the civil-war ravaged country are likely to depend on the success of a recently signed peace deal
Guyana's governance gap
11 December 2018
The oil-rich country is the world's biggest new deep-water play. But can the government develop a transparent energy policy?
Colombia's fracking plans take on a new urgency
10 December 2018
The new administration is turning to shale deposits to hold back the threat of imports