Gazprom Monitor Annual Review 2016

Jack D Sharples

www.gpf-europe.com Gazprom Monitor Annual Review Analysing the External Dimensions of Russian Gas Summer 2015 - December 2016 The European Geopolitical Forum www.gpf-europe.com GAZPROM MONITOR ANNUAL REVIEW 2016 Analysing the External Dimensions of Russian Gas Summer 2015 – December 31, 2016 Authored by Dr Jack Sharples, EGF Associate Researcher Disclaimer The information presented in this report is believed to be correct at the time of publication. Please note that the contents of the report are based on materials gathered in good faith from both primary and secondary sources, the accuracy of which we are not always in a position to guarantee. EGF does not accept any liability for subsequent actions taken by third parties based on any of the information provided in our reports, if such information may subsequently be proven to be inaccurate. GAZPROM MONITOR ANNUAL REVIEW Published by European Geopolitical Forum SPRL © European Geopolitical Forum SPRL All rights reserved Director and Founder: Dr Marat Terterov Email: Marat.Terterov@gpf-europe.com Avenue Du Ma oi D A jou Brussels 1150 Belgium info@gpf-europe.com www.gpf-europe.com www.gpf-europe.ru GAZPROM MONITOR ANNUAL REVIEW 2016 www.gpf-europe.com Director’s Foreword January 23, 2017 Brussels, Belgium Given the complexities and present-day dynamics of Eurasian gas markets, we at the European Geopolitical Forum feel it necessary to provide, in addition to the monthly Gazprom Monitor reports, a high-level yearly summary. We feel the additional perspective and analysis made possible through this extended format will be invaluable for policymakers, business leaders, and other interested stakeholders. As with our monthly Gazprom Monitor, this A ual ‘e ie ill fo us o Gazp o s e te al a ti ities, ith pa ti ula efe e e to the EU gas a ket, the o goi g EU a ti o opol i estigatio i to Gazp o s a ti ities o the EU gas market, the Nord Stream and Turkish Stream e po t pipeli es, Gazp o s elatio s ith Naftogaz Uk ai e i the o te t of ‘ussia-Ukraine relations, and the o petitio Gazp o fa es ega di g ‘ussia s LNG e po ts. We also p o ide a al sis o the easte di e sio of Gazp o s usi ess, in the Asia-Pacific region. The report briefly summarises developments prior to mid-2015 as background information and then provides more detail on developments taking place during the last 18 months. In doing so, this Annual Review assumes no prior knowledge on behalf of the reader. For further background information, please efe a k to the p e ious ea s Annual Review. While this voluminous work can be read in its entirety, the report is also structured in a manner where the reader may choose to delve into the individual sub-sections of the report on their own, as highlighted in the table of contents on the following page. Finally, it should be added that the information and analysis provided in this report is predominantly the work of the author, and does not necessarily reflect the opinions of the European Geopolitical Forum as an organisation. Dr Marat Terterov Founder and Principal Director of the European Geopolitical Forum GAZPROM MONITOR ANNUAL REVIEW - Page 3 of 96 GAZPROM MONITOR ANNUAL REVIEW 2016 www.gpf-europe.com Table of Contents Gazprom and the EU gas market ........................................................................................................................................................ 7 Headline: Gazprom set to achieve record-breaking year for export volumes to Europe in 2016 2015-16: An upturn in European gas demand 2015-16: European gas prices – Decline and recovery 2015-16: Declining European gas production 2015-16: Rising European gas imports Analysis and prognosis for 2017 Arbitration: The ongoing context Arbitration: Gazprom and Uniper reach agreement (March 2016) Arbitration: Gazprom and ENGIE reach agreement (April 2016) Arbitration: Gazprom vs. PGNiG (Poland) remains ongoing I est e t: Gazpro s asset s ap ith BASF Wi tershall O to er I est e t: Gazpro s asset s ap ith OMV De e er Contracts and arbitration in 2015-16: A good year for Gazprom Gazprom and the Baltic regional gas market ................................................................................................................................... 15 Context: Gazpro s o opoly partially eroded as the regio al arket ope s up Projects: The Poland-Lithuania Gas Interconnector (GIPL) faces delays Lithuania: Long-running dispute with Gazprom comes to an end Latvia: Plans to liberalise the national gas arket a d reak the effe ti e o opoly of Lat ijas Gāze Estonia: Eesti Gaas extends its contract with Gazprom, while Gazprom sells its stake in Eesti Gaas Finland: Gazprom sells stake in Finnish Gasum but extends gas supply contract Projects: The Baltic Connector and proposals for Estonian LNG import terminals Gazprom holds Baltic regional gas sales auction (March 2016) EU antitrust investigation into Gazprom .......................................................................................................................................... 20 Context: Gazprom on the European gas market The investigation is launched (2011-12) What were the investigators looking for? The European Commission issues its statement of objections (April 2015) Gazpro s proposals Septe er The first hearing (December 2015) 2016: Quiet summer, busy winter Gazprom submits its formal commitments (December 2016) Expected short-term developments in 2017 Related legislation: Proposed update to EU regulation on security of gas supplies (2016) Analysis: Moving closer to a final settlement Nord Stream ...................................................................................................................................................................................... 27 The Nord Stream project outline The OPAL and NEL gas pipelines The principle of third party access Applying the principle of third party access to OPAL and NEL Project in limbo: Waiting for a European Commission ruling on OPAL Possible grounds for an exemption Gazpro s gas au tio for deli eries ia OPAL and NEL (September 2015) The Commission reconsiders the OPAL case (May 2016) Gazprom holds a second European gas sale auction (September 2016) The European Commission delivers a ruling on third party access to OPAL (October 2016) PGNiG challenges the European Commission ruling on OPAL (December 2016) Analysis and prognosis GAZPROM MONITOR ANNUAL REVIEW - Page 4 of 96 GAZPROM MONITOR ANNUAL REVIEW 2016 www.gpf-europe.com Nord Stream 2 ................................................................................................................................................................................... 34 Background to the project The project moves forward (June-September 2015) Nord Stream 2 linked with Baltic LNG (October 2015) The shareholder agreement unravels in the face of Polish opposition (July-August 2016) Carry on regardless: Nord Stream 2 AG signs contracts for pipe-coating, as first steel pipes are dispatched and the application for a construction permit is submitted to the Swedish authorities (September 2016) Termination of the Nord Stream 2 AG shareholder agreement (November 2016) One step forward, one step back (December 2016) Ongoing elements: The proposed expansion of NEL and the EUGAL pipeline Analysis: The economic case for Nord Stream II based on construction costs and transit fees Analysis: Nord Stream vs. Ukraine delivery distances Conclusions Turkish Stream .................................................................................................................................................................................. 42 Introduction The Turkish Stream project Developments during H1 2015 Geopolitics intervenes (November 2015) Pipe-layer Saipem launches arbitration case against Gazprom (January 2016) Gazprom writes off investment in South Stream and begins re-deploying equipment (April-May 2016) The Russia-Turkey rapprochement (June 2016) The Intergovernmental Agreement and offshore pipe-laying contract (October-December 2016) Poseidon pipeline: Gazprom revives talks with Edison and DEPA (December 2016) Analysis and prognosis Gazprom and Ukraine ....................................................................................................................................................................... 47 Introduction The story so far: Arbitration cases launched (2014) The story so far: Wi ter Pa kages (2014-15) Naftogaz suspends its imports of Russian gas (July 2015) Naftogaz renews short-term imports of Russian gas (October-November 2015) Energy crisis in Crimea raises concerns (November-December 2015) Naftogaz passes a year without imports from Gazprom (2015-16) Analysis: The price at which Naftogaz imports gas from Gazprom A alysis: Naftogaz s pur hases fro Gazpro i relatio to the take-or-pay lause i the Gazpro -Naftogaz contract Analysis: Fees for the transit of Russian gas via Ukraine A alysis: Naftogaz s a ility to i port gas fro the йuropea arket Analysis: The Anti-Monopoly Committee of Ukraine case against Gazprom for alleged abuse of transit monopoly Conclusions and prognosis Gazprom in the Asia-Pacific region ................................................................................................................................................... 60 The Gazprom-CNPC deal of May 2014 Developments in 2014- : The Po er of Si eria йaster ‘oute Developments in 2014-15: Vladivostok LNG cancelled Developments in 2014-15: The Western Route Progress on the Power of Siberia The Western Route Sakhalin-II: Expansion planned but not confirmed Sakhalin-III: Three offshore gas fields Sakhalin-III: The impact of US sanctions The Asia-Pacific regional gas market Analysis and prognosis GAZPROM MONITOR ANNUAL REVIEW - Page 5 of 96 GAZPROM MONITOR ANNUAL REVIEW 2016 www.gpf-europe.com A Final Word ...................................................................................................................................................................................... 69 Appendix............................................................................................................................................................................................ 71 Fig.1. Gazprom Group gas sales to European countries, 2011-15 (billion cubic metres) Fig.2. Gazprom Group gas sales to the former Soviet Union, 2011-15 (billion cubic metres) Fig.3. Gazprom Group gas sales on different markets, 2008-2015 (billion cubic metres) Fig.4. EU-28 gas production, consumption, and imports, 1990-2014 (billion cubic metres) Fig.5. Natural gas production in the UK and Netherlands, 2004-2015 (billion cubic metres) Fig.6. Natural gas production in the UK and Netherlands, 2004-2015 (billion cubic metres) Fig.7. EU-28 gas production, consumption, and net imports, 2008-2015 (billion cubic metres) Fig.8. EU-28 gas consumption, January to August, 2015 vs 2016 (billion cubic metres) Fig.9. EU-28 gas production, January to August, 2015 vs 2016 (billion cubic metres) Fig.10. EU-28 gas net imports, January to August, 2015 vs 2016 (billion cubic metres) Fig.11. EU-28 gas imports by source, 1990-2014 (million cubic metres) Fig.12. EU-28 electricity generation by fuel, 1990-2014 Fig.13. EU Natural gas prices in Europe and the United States, 2014-2016 ($ per mmbtu) Fig.14. Natural gas prices in Europe, 2014-2016 ($ per mmbtu) Fig.15. Natural gas prices in Europe, 2014-2016 ($ per mmbtu) Fig.16. Countries hosting energy companies raided by EU antitrust investigators in September 2011 Fig.17. Map of Nord Stream, OPAL, and NEL pipelines Fig.18. Major new gas pipelines in Russia to connect gas production centres with export routes Fig.19. The proposed Turkish Stream pipeline route Fig.20. The proposed Turkish Stream, Poseidon, and TANAP-TAP pipeline routes Fig.21. Natural gas supplies to Ukraine, 2008-2016 (billion cubic metres) Fig.22. Estimated contractual gas price in the Gazprom-Naftogaz contract, compared with the 9-month rolling average price of Brent crude oil and the price of Russian gas at the German border Fig.23. The pla ed Po er of Si eria gas pipeli e fro ‘ussia to Chi a About EGF .......................................................................................................................................................................................... 82 About the Author .............................................................................................................................................................................. 82 GAZPROM MONITOR ANNUAL REVIEW - Page 6 of 96 EGF Gazprom Monitor www.gpf-europe.com Gazprom and the EU gas market: Contracts, discounts, 2015-16: An upturn in European gas demand and investments O e of the easo s fo Gazp o Headline: Gazprom set to achieve record-breaking year past two years is the growth in European gas demand, for export volumes to Europe in 2016 combined with the decline in European gas production, As we look back on the past year, it appears that s su esses o e the which has resulted in increases in European gas imports. Gazprom is set to celebrate a significant success in terms According to preliminary data from Eurogas, EU-28 gas of export volumes. consumption in 2016 was 4.9 percent higher than 2015, On the 9th of January 2017, the CEO, Alexei Miller, reaching approximately 447 bcm. This follows a 4 announced that Gazprom had exported a record- percent year-on-year increase from 2014 to 2015, as breaking 179.3 bcm to Europe in 2016 – An increase of demand rose from 409 bcm to 426 bcm. 12.5 percent (19.9 bcm) over the 2015 figure of 158.4 Monthly data from Eurostat suggests a 4.3 percent bcm. The 2015 figure was itself a year-on-year increase growth (from 415 bcm to 433 bcm) in 2014-15, and a of 8 percent (11.8 bcm) from 146.6 bcm in 2014. year-on-year growth of 1.8 percent (4 bcm) in H1 2016. It is worth noting at this point that Gazprom defines Eu ope as the EU-28, plus Switzerland, the non-EU Balkans, and Turkey. However, the three Baltic states (as The European Commission Quarterly Gas Market Reports state a 4.5 percent increase in 2014-15 (382 to 399 bcm), and a 3 percent year-on-year growth in Q1-Q3 2016. former members of the Soviet Union) are excluded from Finally, the IEA Monthly Gas Reports estimate that gas Gazp o consumption by the 21 OECD EU member states rose by s defi itio of Eu ope , a d are instead grouped with the rest of the former Soviet Union. In addition to exports of Russian gas by Gazprom Export, another Gazprom subsidiary, Gazprom Marketing and 4.5 percent from 395.7 bcm to 413.7 bcm, followed by a 13 percent year-on-year (January-October) increase, from 329.2 bcm to 341.9 bcm, in 2015-16. Trading Ltd (GM&T), has also found success by trading The differences between these sets of figures has been on the increasingly flexible European gas market. highlighted to remind the reader that there is no single Gazp o s o authoritative data source upon which we can rely. Gazp o I Figu es epo ts, gi e statisti s fo Gazp o a ual epo ts, a d their statistical Group, thus combining sales figures for Gazprom Export a d GM&T. This e plai s h Gazp o s Rather, we must compare data sets from different sources, and identify common trends. o po ate The increase in EU gas demand in 2014-2015 identified reports state that Gazprom Group sales to Europe in by these sources was the first year-on-year increase in 2015 reached 184.4 bcm, up from 159.4 bcm in 2014 and four years. It could mark the end of a medium-term beating the previous record of 174.3 bcm (2013). decline in European gas demand, with preliminary data To understand why Gazprom was able to increase its suggesting further year-on-year growth in 2015-16. exports by such a substantial amount in 2015-16, we To put this upturn into a longer-term context, annual must consider the dynamics of the European gas market. data from Eurostat suggest that, between 1992 and GAZPROM MONITOR ANNUAL REVIEW - Page 7 of 96 EGF Gazprom Monitor www.gpf-europe.com 2005, EU-28 gas consumption grew continuously from 357.3 bcm to 532.6 bcm. Between 2005 and 2010, it stabilised at 520.4 – 535.0 bcm, although 2009 was an exception, with consumption of 497.1 bcm. Then, between 2010 and 2014, EU-28 gas consumption fell from 520.4 bcm to 409 bcm. These figures are illustrated 2015-16: European gas prices – Decline and recovery A key factor in gas demand, which determines the attractiveness of gas as a fuel for power generation and industrial activity, is price. In terms of European gas market prices, the period from December 2014 to September 2016 was one of continuous decline. in fig.4, in the appendix to this report. During this period, European spot prices (NBP, TTF, and Eurogas report that the main causes of the upturn in European gas demand are increases in the use of gas in power generation, a revival of industrial activity, and the increased use of natural gas in transport. This view is Zeebrugge) fell from roughly $9.00 per million British thermal units (mmbtu) to less than $4.00 per mmbtu. By January 2017, European spot prices had recovered to approximately $6.00 per mmbtu. supported by Platts, which reported: During the same period, the (oil-indexed) price of Gas demand for power generation in the UK rose 50% to 19.8 Bcm in the year to December 2015, while Italian gas-for-power demand jumped 12% to 20.9 Bcm… French gas demand for power generation more than doubled to 3.8 Bcm… There was some coal-to-gas switching Russian gas at the German border (as reported by the IMF) fell from $10.45 per mmbtu to just $3.96 per mmbtu – a level last seen in September 2004. As with spot prices, oil-indexed prices also recovered in Q4 2016, with the price of Russian gas on the German border in Northwest Europe in 2016 given the divergence in coal prices to the upside and gas prices to the downside, while in the UK coal use in power generation slumped due mostly to the continued impact of the carbon price support mechanism and the retirement of a big chunk of coal-fired power generation capacity. But no new UK coal plant retirements are expected in 2017... Industrial demand will likely have been boosted by the weaker euro in 2016, benefiting Europe's export-oriented industries. reaching $5.17 per mmbtu in December 2016. To put this into context, following the dramatic slump in oil prices in H2 2008, the oil-indexed price of Russian gas at the German border fell from $16.02 per mmbtu in January 2009 to a low of $6.19 per mmbtu in AugustSeptember 2009. Therefore, oil-indexed gas prices fell to a lower level in 2015-2016 than during the slump of 2009, although the gap between peak and trough was not as wide (see also figs.13, 14, and 15 in the appendix). To gauge the likely levels of oil-indexed gas prices in 2017, it is necessary to consider ongoing trends in international oil prices. In September 2014, the monthly Although the share of natural gas in EU electricity average price of Brent crude oil fell below $100 a barrel generation grew from 1993 to 2010, the period 2010 to for the first time since February 2011. The decline 2014 saw a significant decline in gas consumption for continued to reach $48 a barrel in January 2015. After a power generation (fig.12). However, data for 2015 and rally to $64 in May 2015, prices fell again to a new low of 2016 appear to show a reversal of that trend. just $30 a barrel in January 2016. The period of May to GAZPROM MONITOR ANNUAL REVIEW - Page 8 of 96 EGF Gazprom Monitor www.gpf-europe.com November 2016 saw prices recover and stabilise at $45- The decline continued into 2015, with Eurostat monthly 50, before reaching $53 in December 2015. In the first data showing production declining by 13 bcm to 127 half of January, daily prices hovered around $55 a barrel. bcm in 2014-15, followed by a further 8 bcm year-on- In the immediate short term, the increase in the daily year decline in H1 2016. The European Commission price of Brent crude from $45 on the 29th of November Quarterly Report on EU Gas Markets reported that EU-28 to $55 on the 2nd of January suggests that oil-indexed gas production declined by 9 percent year-on-year in prices will also rise in January. While spot prices reached $6 per mmbtu in January 2017, the price of Russian gas 2015, to 119 bcm, before falling 24 percent year-on-year in Q1 2016 and rising 8 percent year-on-year in Q2. at the German border is also likely to rise above its The long-term decline can be explained by falling December level of $5.17 per mmbtu and could find production in the major EU gas producers: During the parity with spot prices during Q1 2017. period of 2004-2015, significant declines in gas And what about the outlook for the rest of 2017? While the worst of the oil price decline is now past, we are also a long way from returning to the heady days of 20112014. Although recent years have shown the hazards of predicting oil prices, we may cautiously suggest that the likely stability of oil prices in the $40-60 corridor in 2017 means that oil-indexed gas prices in Europe will also see a strong degree of stability around $6 per mmbtu, within a corridor of $5-7 per mmbtu. production were seen in five largest gas-producing countries of the EU: the UK (from 104.5 to 42.7 bcm), Netherlands (74.1 to 46.3 bcm), Germany (17.5 to 7.5 bcm), Italy (12.8 to 6.7 bcm), and Denmark (from 10.2 to 4.9 bcm). Production declined slightly in Romania (12.5 to 11.1 bcm) and Poland (4.7 bcm to 4.4 bcm). Taken together, these seven countries (which accounted for 95 percent of EU gas production during this period) saw their combined gas production fall from 236.3 bcm to 123.8 bcm between 2004 and 2015 (see figs.5 and 6). The gradual increase in European gas demand predicted for 2017 will lead to slight upward pressure on European hub prices. The extent to which that pressure will be eased by the availability of supplies will depend on levels of European gas production, and the availability of both pipeline supplies from traditional suppliers (Russia, Norway, and Algeria) and LNG from the global market. Eurostat data for January-August 2016 show a 5.4 percent year-on-year decline in EU gas production. During the same period, Dutch gas production fell by 15 percent (from 31.2 to 26.4 bcm) and UK gas production rose by 4.2 percent (from 28.1 to 29.3 bcm), meaning the UK could now be the largest gas producer in the EU. The dramatic decline in Dutch gas production can be explained by the dramatic fall in production at the giant 2015-16: Declining European gas production Groningen field over the past two years, which may now The 18-month period from mid-2015 to the end of 2016 settle into a more gradual decline. The slight rise in UK covered by this report saw the continuation of a long- production is due to the commissioning of several new term decline in European gas production. According to fields to offset declining production at mature fields. Eurostat, EU-28 gas production declined by around 105 bcm between 2004 and 2014, from 247 bcm to 140 bcm. GAZPROM MONITOR ANNUAL REVIEW - Page 9 of 96 EGF Gazprom Monitor www.gpf-europe.com Overall, the picture for EU gas production is one of long- If Gazp o s exports to Turkey in 2016 are similar to term decline, which will result in further increases in EU 2015 (27 bcm), then exports of Russian gas by Gazprom gas imports and, for Gazprom, a growing export market. Export to the EU (minus the Baltic states but including Switzerland and the non-EU Balkans) reached around 152 bcm in 2016, up from 132.1 bcm in 2015 and 147.6 2015-16: Rising European gas imports bcm in 2013 (the previous record). This would leave EU gas production peaked in 1996, and remained Gazprom accounting for almost half of EU gas imports, relatively stable until 2004, when it entered into a steady and around one-third of EU gas consumption. decline. The fact that EU gas demand rose from 1990 to ‘ega di g Gazp o 2005, before entering a five-year period of stability, meant that EU gas imports rose substantially between 1990 and 2010. Between 2010 and 2014, EU gas demand declined more rapidly than production, causing imports to fall for the first time (fig.4). Over the past two years, the decline in EU gas demand has been reversed, while the decline in production has continued, resulting in an s o petito s, Norwegian gas exports to Europe reached 108.6 bcm in 2016, while Qatari LNG exports to Europe fell to a reported 17.5 million tonnes of LNG (23 bcm). Alge ia s o i ed pipeline and LNG exports to the EU in 2016 have not been confirmed, but 2015 saw Algeria export 13 bcm of LNG and 21 bcm of pipeline gas to Europe, and imports from Algeria are unlikely to have decreased in 2016. increase in net imports. Looking to 2017, it is possible that rising EU import Monthly Eurostat data shows EU net gas imports increasing 7 percent from 279.6 bcm to 300 bcm in 2014-15. In January-August 2016, year-on-year increases in consumption (2.3 percent) and decline in production (5.4 percent) led to a 12.4 percent increase in net imports, from 192.3 bcm to 216.2 bcm. The EC Quarterly demand and saturation of the Asian LNG market could bring more LNG imports to the EU. Large-scale imports from the US are unlikely, although the symbolic first American LNG shipments arrived in Europe in 2016: One each to Spain and Portugal. Meanwhile, Norwegian and Algerian exporters will look for repeat successes in 2017. Reports, show EU net gas imports increasing 7 percent in 2015 (from 257 bcm to 277 bcm), and by 11 percent year-on-year in Q1-Q3 2016. Statistics for Q4 2016 (and 2016) should be available in the coming months. The major supply shift to look for in 2017 is the impact of increased Australian LNG exports on the global LNG market: Australian LNG exports grew 47 percent y-o-y in 2015-16, from 29 million tonnes (mt) (39 bcm) to 45 mt Both the EC Quarterly Reports and Eurostat data suggest a substantial increase in EU gas imports of at least 40 bcm between 2014 and 2016, with EU gas imports expected to reached 310-320 bcm in 2016. In terms of Gazp o (61 bcm), and are predicted to reach 60 mt (82 bcm) in 2017. Oversupply on the Asian market could direct higher LNG volumes to Europe, creating more competition and potentially hold down price increases. s headline figure of 179.3 bcm of Russian gas exports to Europe, it is possible to subtract esti ates of Gazp o al ulate Gazp o s e po ts to Tu ke s e po ts to the EU i a d thus . GAZPROM MONITOR ANNUAL REVIEW - Page 10 of 96 EGF Gazprom Monitor www.gpf-europe.com onto spot markets, and reduced incidents of companies Analysis and prognosis for 2017 The period 2015-16 was, in many ways, an antidote to the difficult trends of 2011-14. Between 2011 and 2014, the European gas market faced an uncomfortable off-taking the contractual minimum and meeting their residual demand through supplies purchased on the spot market. combination of declining demand, falling spot prices Meanwhile, the convergence of spot and oil-indexed caused by oversupply, and high oil-indexed gas prices prices reduced the volatility caused by the previous driven by high oil prices. imbalance between the two. This positive dynamic was Companies tied to long-term, oil-indexed contracts reduced their offtake to the contractual minimum. If their residual demand was above the contractual minimum, they purchased cheaper additional supplies on the spot market. If their demand was lower than the further reinforced by the series of contractual renegotiations and arbitration cases that shifted a greater share of European gas imports from oil-indexed to spot pricing, even under long-term contracts with traditional suppliers such as Gazprom. contractual minimum, they sought to re-sell their With oil prices unlikely to rise significantly in 2017, and imported supplies on the spot market, while frantically the European market set to remain well-supplied in negotiating temporary discounts. This re-selling of long- relative to gradually increasing import demand, the term contract gas added to the oversupply on the coming year could provide some much-needed stability European spot markets, further fuelling the divergence for the European gas market. of spot and oil-indexed prices. Given their successes in 2015 and 2016, stability on the The decline in oil prices in 2014-15 brought oil-indexed European gas market in 2017 would surely represent a gas prices down, thus closing the gap with spot prices welcome scenario for Gazprom. that were also falling. Lower gas prices stimulated increased demand, particularly in the power generation sector. These lower prices also coincided with the Arbitration: The ongoing context gradual re-emergence of growth in the industrial sector, Contractual renegotiations and arbitration cases are with lower input costs providing support for tentative common on the European gas market. The divergence of industrial growth, which, in turn, fed tentative increases spot and oil-indexed gas prices from 2010-11 onwards in industrial gas demand. In other words, a cycle of sparked moderate growth. renegotiations and arbitration cases. As noted above, Therefore, the two years of 2015 and 2016 represented a ealig e t of the Eu opea gas a ket. The increase in gas demand reduced the number of wholesale importers that were locked into contracts for a substantial number of contractual the divergence was caused by a rebound in oil prices at a time when the European gas market remained oversupplied, causing oil-indexed prices to raise significantly higher than hub prices. volumes that they did not need, reduced the volumes In 2010-12, Gazprom revised its wholesale gas supply that contracts with Wingas (Germany), GDF Suez SA (France), ee ei g i po ted a d i ediatel du ped GAZPROM MONITOR ANNUAL REVIEW - Page 11 of 96 EGF Gazprom Monitor www.gpf-europe.com EconGas GmbH (Austria), SPP AS (Slovakia) and Sinergie Arbitration: Gazprom and Uniper reach agreement Italiane Srl (Italy) - companies accounting for 35 bcm per (March 2016) year in gas purchases, or approximately 25 percent of all On the 24th of March 2016, Gazprom and Uniper (an Russian gas exports to the EU. E.ON su sidia In 2013, Gazprom revised its contracts with GDF Suez ag eed to o ditio s of thei gas suppl adjust the p i i g o t a t, a d e d thei and the Austrian energy utility, OMV. Then, in May 2014, arbitration proceedings. The agreement with Gazprom Gazprom signed a landmark deal revising the pricing resulted in an immediate (Q1) refund of € formula in its long-term gas supply contract with Eni, follo ed aQ , efu d of €800m. completely switching from oil-indexation to spot pricing li ked to Ital s gas t adi g hu , the Pu to di “ a io Virtuale, or PSV). In June 2014, Cedigaz released a report suggesting that European gas buyers that renegotiated The arbitration process was launched in April 2014, with E.ON (Uniper) demanding a revision of contractual terms backdated to 30th October 2013. their contracts with Gazprom over the past 14 months The efo e, the total efu d of € , 80m could equate had received discounts of around 10 to 20 percent and a to refunds for Gazp o reduction of their take-or-pay commitments. 2013 and Q1 2016. s sales to E.ON et ee Q In terms of arbitration cases, in June 2013 the International Court of Arbitration in Vienna made a Arbitration: Gazprom and ENGIE reach agreement (April landmark ruling in favour of RWE Supply and Trading CZ 2016) fo e l ‘WE T a sgas, a su sidia of Ge a s ‘WE in its dispute over the price of gas supplies in its longterm contracts with Gazprom. The ruling stated that RWE had overpaid for its purchases from Gazprom since May 2010, and that Gazprom must reimburse RWE for those overpayments. Furthermore, Gazprom was o liged to i t odu e a spot p i e ele e t i to its contract with RWE Supply and Trading CZ – a contract that was previously oil-indexed. In November 2014, the Arbitration Institute of the Stockholm Commercial Court awarded Edison 35 percent of the sum it had claimed, in seeking to retroactively ENGIE initiated arbitration proceedings with Gazprom at the Arbitration Institute of the Stockholm Commercial Court on the 23rd of December 2015, in a bid to renegotiate prices under their long-term gas supply contract. Gazprom Export supplies gas to ENGIE under six long-term contracts, of which at least three are valid until 2031. On the 12th of April 2016, Gazprom and ENGIE announced that they had reached agreement on the issue of contractual revisions, and that the arbitration process had been terminated. amend gas prices applicable since the end of 2012. Interestingly, while ENGIE stated that the company had Edison had previously secured lower gas prices through de-risked its long-term supply contracts for the next arbitration with the National Oil Corporation (Libya) and years by adjusting their pricing to the market RasGas (Qatar) in September 2012 and with Sonatrach o ditio s , Gazp o a ou ed that (Algeria) in April 2013. ha ges i ou o t a ts ha e take pla e . o st u tu al GAZPROM MONITOR ANNUAL REVIEW - Page 12 of 96 EGF Gazprom Monitor www.gpf-europe.com These seemingly conflicting statements resulted in The following month, reports suggested that PGNiG had speculation over whether the contracts had shifted from altered its claim, in a bid to shift from oil-indexation to oil-indexation to spot-indexation, and whether the take- spot-i de atio , as ell as e egotiate the or-pay provisions had been substantially revised. All we know for certain is that ENGIE was sufficiently pleased with the revisions to drop its arbitration suit, while Gazprom is keen to downplay the idea that it is prepared to shift to spot-indexation as a pricing mechanism. ase p i e. Finally, at a press conference in November 2016, PGNiG stated that the arbitration process was continuing, and that a decision was expected in mid-2017. Gazp o s a it atio ases ith DONG a d “hell Energy Europe remain ongoing, while the Dutch GasTerra initiated arbitration in May 2016. Gazp o s long-term Arbitration: Gazprom vs. PGNiG (Poland) remains contracts with DONG and GasTerra expire in 2030 and ongoing 2020 respectively. Gazprom supplies gas to PGNiG under the terms of their long-term gas supply contract, which was signed in September 1996. The two sides had previously renewed Investment: Gazpro s asset swap with BASF Wintershall (October 2015) their long-term contracts for supply of gas from Russia to Poland and for the transit of Russian gas via Poland in 2010, with the validity of these two contracts extended to 2022 and 2019 respectively. In November 2012, under threat of potential arbitration, the two sides renegotiated their gas supply contract, but retained the take-or-pa lauses a d oil i de atio of gas p i es. The agreement, first signed in November 2012, sees Gazprom exchange 25 percent shares in blocks 4 and 5 of the Achimov deposits of its Urengoy gas field (West Siberia) for 100 percent shares in the Gazprom-BASF Wintershall joint venture gas trading and storage companies, Wingas, WIEH and WIEE. Gazprom also received a 50 percent share in BASF Wintershall PGNiG requested a renegotiation of gas prices in December 2014. According to the terms of their subsidiary, Wintershall Nordzee (WINZ), which carries out exploration and gas production in the North Sea. contract, if the negotiations are not completed within six months, the aggrieved party is then able to apply for arbitration. In May 2015, PGNIG filed a lawsuit at the Arbitration Institute of the Stockholm Commercial Court. The deal was approved by EU regulators in December 2013. The finalisation of the deal was announced by Gazprom and BASF Wintershall in October 2014. However, just two months later, the deal was cancelled. In January 2016, PGNiG announced that it was investigating the possibility of constructing a new pipeline to import se e al illio u i financially retroactive to the 1st of April 2013. et es of gas from Norway by 2022 – The year that its long-term gas supply contract with Gazprom ends. The asset-swap was finally completed in October 2015, Wintershall is a strategic partner for Gazprom: The company is a 15.5 percent shareholder in Nord Stream AG, and was a 10 percent shareholder in the ill-fated Nord Stream 2 consortium. GAZPROM MONITOR ANNUAL REVIEW - Page 13 of 96 EGF Gazprom Monitor www.gpf-europe.com Wintershall is also a 50 percent shareholder in W&G, a Sea. OMV (Norge) is an operator of four licences, and a joint venture with Gazprom. W&G owns 80 percent of partner in the remaining licences. the OPAL pipeline. The remaining 20 percent of OPAL is owned by E.ON. W&G also owns 51 percent of the NEL pipeline, in partnership with Gasunie (25 percent) and The asset-swap is subject to approval by Norwegian regulators, who previously refused to let Gazprom acquire more than 25 percent of OMV (Norge). Fluxys Deutschland (24 percent). In 2013, Gasunie and Fluxys each purchased 5 percent shares in NEL, to buy out E.ON s pe e t sha eholdi g. OPAL and NEL are Contracts and arbitration in 2015-16: A good year for the German onshore sections of Nord Stream. Gazprom Furthermore, Wintershall participates in gas production The contractual re-negotiations with Uniper and ENGIE in Russia, through its 35 percent shareholding in the a e good e s fo Gazp o , as the a e t o of Eu ope s licence to develop the Yuzhno-Russkoye gas field, along largest gas-importing companies. According to Cedigaz, with Gazprom (40 percent) and Uniper (25 percent). four companies (Eni, Uniper, Wingas, and ENGIE) hold Wintershall and Gazprom are also equal shareholders in import contracts for approximately 146 bcm per year, the development of block A1 of the Achimov deposits of out of 360 bcm contracted between EU gas-importing the Urengoy gas field in North-West Siberia. companies and non-EU gas-exporting companies. Through its asset swaps with Wintershall and OMV, Investment: Gazpro s asset s ap ith OMV December 2016) Gazprom has exchanged 50 percent of blocks 4 and 5 of the Achimov deposits of the Urengoy gas field for substantial shareholdings in two companies (Wintershall On the 14th of December 2016, it was announced that Gazprom and the Austrian OMV had signed a basic agreement on an asset-swap. Under the agreed terms of the deal, Gazprom will gain a 38.5 percent stake in Nordzee (WINZ) and OMV Norge) that engage in gas production in the North Sea. In doing so, Gazprom has spread its commercial risk in relation to its own investment in gas production. OMV's Norwegian subsidiary, OMV (Norge) AS, in exchange for a 25 percent stake in the 4th and 5th development blocks of the Achimov deposits at Gazprom's Urengoy gas field. Reports suggest that the parties intend to implement the agreement in the first Furthermore, by re-negotiating its contracts with Uniper and ENGIE, and engaging in asset-swaps with Wintershall and OMV, Gazprom has cemented its relationships with four of its closest commercial partners in Europe. half of 2017. OMV Norge holds minority stakes in 18 licences for offshore oil and gas field blocks in the North Sea, Norwegian Sea, and Barents Sea, in addition to one majority stake (60%) in a block licence in the Norwegian GAZPROM MONITOR ANNUAL REVIEW - Page 14 of 96 EGF Gazprom Monitor www.gpf-europe.com Gazprom and the Baltic regional gas market: Contracts, construction tender for the Gas Interconnection Poland- discounts, and investments Lithuania (GIPL) was held in April 2016. However, the Context: Gazpro project has experienced technical difficulties. In s o opoly partially eroded as the September 2016, the Polish pipeline system operator, regional market opens up Gaz-“ ste , a Until 2014, Gazprom held a monopoly on gas supplies to four Baltic states: Finland, Estonia, Latvia, and Lithuania. ou ed that the Te h i al Feasi ilit Study for the new routing of the pipeline that should be ready by mid- . In December 2014, the Klaipeda LNG terminal in Lithuania received its first commercial delivery. By the end of 2016, that terminal remained the only new Lithuania: Long-running dispute with Gazprom comes to source of gas to the region, but developments were an end under way to open up the Baltic regional gas market to greater competition and Gazprom found itself developing new strategies to adapt to these changing conditions. Until 2014, natural gas was imported into Lithuania by Lietuvos Dujos, a vertically-integrated company in which Gazprom (37 percent), E.On (39 percent), and the Lithuanian State Property Fund were the main shareholders. Projects: The Poland-Lithuania Gas Interconnector (GIPL) ownership and operation Lithua ia s pipeli e et o k as spu off to A of e G id in 2013. Lietuvos Dujos was unbundled, and the faces delays Bet ee The a d , Pola d s gas wholesale gas-imported entity was renamed Lietuvos o su ptio Dujos Tiekimas (LDT). increased steadily from 13.7 bcm to 16.7 bcm, while production remained stable at 4.1- . . Gazp o s long-term contract to supply PGNiG expires in 2022, and In the summer of 2014, E.ON and Gazprom sold their shares in Lietuvos Dujos and Amber Grid to Lithuanian accounts for most of Pola d s gas i po ts roughly 13 state-owned holding companies. bcm in 2012-13 and 9 bcm in 2014-15). Gazp o The Swinoujscie LNG terminal in Poland received its first commercial delivery in June 2016. The terminal is currently operating below its 5 bcm capacity, due to a lack of import demand beyond the long-term contract s gas suppl o ta t ith LDT (formerly Lietuvos Dujos) expired at the end of 2015, although some unused take-or-pay volumes were rolled over into 2016. Since then, Lithuanian gas importers have purchased gas either in the form of LNG or through with Gazprom. This spare capacity cannot be used to Gazp o supply the Baltic region, due to a lack of pipeline In October 2012, the Lithuanian government launched connection between Poland and Lithuania. an arbitration case against Gazprom, claiming it had Plans are in place for the development of such a new interconnector, which would connect the Baltic region to the continental European gas market for the first time. A s Balti gas au tio see elo . overcharged for gas supplies to Lietuvos Dujos between 2004 and 2012. In June 2016, the result of that arbitration was announced: Although the arbitration panel noted Gazprom s o fli t of i te est as a GAZPROM MONITOR ANNUAL REVIEW - Page 15 of 96 EGF Gazprom Monitor www.gpf-europe.com shareholder in a company that purchased gas from the transmission and gas storage functions to a new Gazprom subsidiary, Gazprom Export), the panel did not company, Conexus Baltic Grid. award a refund to LDT (Lietuvos Dujos). The fi st step legal unbundling must be completed by This issue was analysed in detail in the June 2016 edition the 3rd of April 2017, which marks the e pi of the Gazprom Monitor, and in previous editions of the temporary exemption from the implementation of the Gazprom Monitor Annual Review. EU Third Energy Package. The se o d step o e ship u G id f o u dli g Lat ijas Gāze of Lat ia s full is to sepa ate Co e us Balti the st of December 2017. Latvia: Plans to liberalise the national gas market and reak the effe ti e “ha eholde s i Lat ijas Gāze will receive an equivalent o opoly of Lat ijas Gāze number of shares in Conexus Baltic Grid in April 2017. Gazprom is currently the monopoly supplier of natural gas to Latvia, through its long-term gas supply contract ith Lat ijas Gāze, hi h e pi es i The . gas p odu e s o as ha i g oti g ights at Lat ijas Gāze, they will be obliged to sell their shares in Conexus Baltic a age e t of Lat ia s gas t a s issio a d distribution networks, wholesale imports, and sales to final consumers are currently conducted by one o pa , Lat ijas Gāze. Gazp o However, if those shareholders fall into the categories of Grid by the end of 2017. Therefore, while Gazprom will remain the primary supplier of natural gas to Latvia, under the terms of its long-term gas supply contract, it is likely that Gazprom s sha eholdi g i Lat ijas Gāze is pe e t, along with the EU infrastructure investment fund, will sells its stake in Lat ijas Gāze efo e the e d of 2017. Marguerite (29 percent), the E.ON subsidiary, Uniper (18 percent), and Itera Latvia, which is part of the Russian Itera Group (16 percent). Marguerite acquired its stake i Lat ijas Gāze i Ja ua , ha i g pu hased the In February 2016, the Latvian parliament, the Saeima, o e fo while Gazprom sells its stake in Eesti Gaas While Lithuania has moved over to short-term imports of shares from Uniper. oted to u Estonia: Eesti Gaas extends its contract with Gazprom, u dle Lat ijas Gāze i to t o o pa ies: a agi g Lat ia s gas pipeli e a d sto age infrastructure, and one for distributing and selling gas to final consumers. The parliament also approved the gas from Gazprom with the help of its LNG import terminal, and Latvia s Lat ijas Gāze remains locked into its long-term with Gazprom until 2030, the Estonian holesale gas i po te , Eesti Gaas has take a iddle oad . implementation of third party access provisions and the In 2003, Eesti Gaas extended its long-term contract with right of consumers to choose their own suppliers. Gazprom until 2015. Then, in March 2016, Eesti Gaas On the 2nd of “epte extended the contract by a further three years, until the e , Lat ijas Gāze shareholders voted in favour of spinning off gas end of 2018. The plan is to maintain stability and security with the three-year contract, in the hope that by the GAZPROM MONITOR ANNUAL REVIEW - Page 16 of 96 EGF Gazprom Monitor www.gpf-europe.com time the contract expires, Eesti Gaas (and other Estonian Finnish gas company. In November 2014, the Finnish gas importers) will have access to LNG imports via the state-owned energy holding, Gasunia Oy, purchased a 31 Klaipeda terminal in Lithuania or via a new Estonian LNG percent stake in Gasum from Fortum and a 20 percent import terminal. The previous additional option of stake from E.ON, raising its shareholding to 75 percent importing gas ia a egio al LNG te and leaving Gazprom as the only minority shareholder. i al to e lo ated in Finland disappeared when Gasum abandoned the Finngulf LNG terminal project. Instead, it seems that small-scale LNG terminals will be built in several off-grid locations in Finland instead, while major supplies for Fi la d s gas g id ill o ti ue to e supplied pipeli e by Gazprom. Gasum and Gazprom began to renegotiate their longterm gas contract in early 2014 and, when no agreement was reached, the pair turned to arbitration as a means of resolving the issue. However, negotiations continued and reached a successful conclusion in December 2015, before the arbitration proceedings moved to a tribunal In terms of sha eholdi gs, Gazp o s a tio s i Esto ia hearing. These negotiations were surely eased by the follow the pattern of its activities in Lithuania. In fact that declining oil prices in 2014-15 had already February 2016, the private Estonian company, Trilini, lowered the oil-i de ed p i e of Gazp o agreed to bu out Fo tu Finland. s pe e t sha eholdi g i Eesti Gaas. Then, in March, Trilini made an offer to buy Gazp o s 37 percent stake in Eesti Gaas, along with the pe e t held Ite a. T ili i s offe to Gazp o accepted on the 13 th as of May and approved by the Estonian government Department of Competition ten days later. Trilini completed its takeover of Eesti Gaas in s e po ts to On the 18th of December, Gasum announced that Gazprom had sold its 25 percent stake in the company to the state-owned Gasonia Oy, meaning that Gasum is now 100 percent Finnish state-owned. Reports suggest that Gasunia Oy paid €251 million ($272m) for the 25 percent stake in Gasum. December 2016, with confirmation of its purchase of the remaining 1.15 percent minority shareholdings. As a supplier, Gazprom faces declining demand on the Finnish market, as cheap coal supplies undercut natural Trilini is a subsidiary of the privately-owned Estonian gas – According to the BP Statistical Review of World investment company, Infortar. Therefore, the major E e g , Fi la d s a difference between Lithuania and Estonia in this regard is that, in Lithuania, Lietuvos Dujos was unbundled into several state-owned companies, while Eesti Gaas was ual gas o su ptio de li ed f o 4.0 bcm in 2005 to 2.1 bcm in 2015. Gazprom could also face increasing competition from supplies delivered via the proposed Baltic Connector pipeline (see below). completely taken over by a private investor. However, Gasum pulled out of the Baltic Connector project in October 2015 (see below), and abandoned the Finland: Gazprom sells stake in Finnish Gasum but proposed Finngulf LNG terminal in the same month. extends gas supply contract Then, in December 2015, it extended its long-term At present, Gazprom is the monopoly supplier of natural gas to Finland, and long held a 25 percent stake in the contract with Gazprom from 2025 to 2031, in exchange for a more favourable pricing formula. GAZPROM MONITOR ANNUAL REVIEW - Page 17 of 96 EGF Gazprom Monitor www.gpf-europe.com Projects: The Baltic Connector and proposals for Estonian e tai l e ough to eet Esto ia s i po t eeds . LNG import terminals bcm per year). The Baltic Connector is a proposed pipeline link between With the Finngulf terminal cancelled, it seems likely that Estonia and Finland. The project was initially developed the Baltic Connector will be used to help Finland by Gasum (Finland) and the Estonian energy company, diversify its gas imports. It is possible that such gas Elering. As noted above, Gasum withdrew from the supplies project in October 2015, to be replaced by the Finnish terminal, particularly given plans to increase the capacity state-owned Baltic Connector Oy. of cross-border pipelines between Lithuania, Latvia, and In December 2015, representatives of the European ill e i po ted ia Lithua ia s Klaipeda LNG Estonia. Finnish However, there are also two LNG import projects government agreed to undertake a study of the project. proposed in Estonia. A potential terminal at Paldiski is In July 2016, it was announced that the European being promoted by Alexela, while a proposed terminal at Commission would fund 75 percent of the cost of the Muuga (near Tallinn) is being promoted by Vopak. Both project. Alexela and Vopak are Estonian companies. In November 2016, Neste Jacobs was chosen as the The projects are competing for EU funding under the O Connecting Europe Facility, and only one will be built. Commission, Estonian government, e s E gi ee a d p o ide of p oje t and a age e t services. According to Neste Jacobs: The Baltic Connector project will include building of a 150 kilometre-long, bi-directional gas transmission pipeline, from which 80 kilometres The Alexela subsidiary, Balti Gaas, filed an application for funding in October 2016, while Vopak announced on the 29th of December 2016 that they were preparing their application. will be constructed offshore subsea between The implementation of either terminal will depend on Paldiski (Estonia) and Inkoo (Finland) and two EU funding, and the assessment by the European onshore gas transmission pipelines to Finland and Commission as to whether another terminal is e essa , gi e in Estonia. The project will also include construction of a gas a d Gazp o metering station and two compressor stations to Lat ijas Gāze, Inkoo and Paldiski. The project will start in November 2016 and it is estimated to be finished Esto ia s li ited gas i po t de a d s lo g-term contracts with Gasum and hi h se e el li it the de a d fo alternative gas supplies in neighbouring Latvia and Finland. in December 2019. The transfer capacity of the completed pipeline will be 7.2 million m3 per day. The capacity of 7.2 million cubic metres (mmcm) per day equates to 2.6 billion cubic metres (bcm) per year. This ould e e ough to eet the e ti et of Fi la d s gas import needs (roughly 2.0-2.5 bcm per year) and GAZPROM MONITOR ANNUAL REVIEW - Page 18 of 96 EGF Gazprom Monitor Gazprom holds Baltic regional gas auction (March 2016) One way in which Gazprom has adapted to the gradual development of competition on the Baltic regional gas market is to sell gas at auction. I , Lithua ia s et gas i po ts a ou ted to . bcm, of which 2.1 bcm was imported from Russia. At the start of 2015, the picture was rather clear: Lietuvos Dujos Tiekimas (LDT) imported gas by pipeline from Gazprom, along with the chemical company, Achema, www.gpf-europe.com The supplies sold at auction in March 2016 were either for delivery to the Lithuanian-Belarusian border (Kotlovka) between Q2 and Q4 2016, or to undertake transfer of ownership at the Latvian I čukal s underground gas storage facility (UGSF) in May 2016. Gazprom did not hold a repeat auction for volumes that would be delivered in 2017. This may be attributed to a lack of Lithuanian demand for Russian gas, in light of volumes available from the Klaipeda LNG terminal and while state-owned Litgas imported LNG via the new I čukal s UG“F. terminal. As long as Eesti Gaas and Lat ijas Gāze have no need for Then, in January 2016, Litgas reduced its delivery volumes and extended its contract with Statoil from 5 to 10 years. The following month, both LDT and Achema signed agreements to purchase limited amounts of LNG from Statoil, and reduce their pipeline imports from Gazprom. auction purchases, Baltic gas auctions will only be of interest to LDT and minor customers, such as Achema and Haupas. This renders the auction relatively uncompetitive, as each counterparty is able to purchase thei e ui ed olu es at the ese e p i e . Whethe counterparties such as LDT and Achema purchase gas at auction will depend on whether the reserve price is Between the 15th and 17th of March, Gazprom held an auction to sell gas supplies to the Baltic region, over and above the existing contractual volumes. The participants were bound by non-disclosure agreements, which competitive with the price of spot-market LNG available via the Klaipeda terminal. This will also be the case for Eesti Gaas, when its contract with Gazprom expires at the end of 2018. prevented them from revealing volumes purchased and prices paid. However, Gazprom confirmed that six clients purchased a total of 420 mmcm, of which three were Lithuanian. Those three clients were LDT, Achema, and Haupas, a small company that supplies extremely limited volumes to a Lithuanian spa town. Given that Eesti Gaas and Lat ijas Gāze would not need to purchase gas at an auction due to their long-term contracts, we may estimate that LDT and Achema purchased most of the auction volumes, and that three minor purchasers joined Haupas in buying small volumes. GAZPROM MONITOR ANNUAL REVIEW - Page 19 of 96 EGF Gazprom Monitor www.gpf-europe.com Soviet Gas Export Institution (SoyuzGazExport). The The EU antitrust investigation into Gazprom extensive network of pipelines that deliver gas from Context: Gazprom on the European gas market Russia to Central Europe and the Baltic States via Gazprom currently holds a legal monopoly on the export Ukraine and Belarus is a legacy of Council for Mutual of Russian gas by pipeline. It also holds a de facto E o o i Aid Co e o monopoly on the export of Russian gas in the form of Blo du i g the Cold Wa . that e isted i the Easte LNG (liquefied natural gas), and will continue to do so until two other Russian energy companies, Novatek and The EU antimonopoly investigation concerns eight fo Rosneft, implement their own LNG export projects. These competing p oje ts a e lo ated i ‘ussia s Fa East e e e s of the Easte Blo : Bulgaria, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland and Slovakia, in addition to Germany and Austria. and are designed for the export of gas to Asia. While the Novatek project (Yamal LNG) is due for launch in 2017, the Rosneft project (a joint venture with ExxonMobil) has been frozen by sanctions. Therefore, when analysts currently discuss Russian gas exports to Europe, they are According to the International Energy Agency (IEA), in 2013, the EU-28 depended on imports for 63.5 percent of its natural gas consumption. For the eight states listed above, that figure was 91.3 percent. More strikingly, while the IEA estimates that Gazprom supplied 33.5 essentially discussing Gazprom. percent of EU gas imports in 2013, for the eight states For several decades, from the beginnings of cross-border gas exports in Europe in the 1960s and 1970s, gas prices were index-linked to oil prices and sold under long-term contracts. This reflected the context of relatively low oil prices, the capital-intensive nature of developing natural listed above that figure was 91.5 percent. While Hungary, the Czech Republic, and Poland received 72-86 percent of their gas imports from Russia, for Slovakia, Bulgaria, and the three Baltic states that figure was 95100 percent. gas production and pipeline exports, and the prevailing sense that natural gas was, technically, a difficult fuel to produce, store, and transport. At that time, coal, oil, and gas competed with each other as fuel for power stations. For comparison, Eurogas estimate that Gazprom supplied 40 percent of EU gas imports and 92.9 percent of the gas imported by the eight states listed above. Clearly, Gazprom is the dominant supplier in the Central The dramatic, yet relatively short-lived, spike in and Eastern European member states of the EU. international oil prices in the 1970s was followed by a decade-long slump in prices from the mid-1980s to the late 1990s. As a result, there was little pressure to break the link between oil and gas prices in Europe until the s do i a t positio o the Eu opea gas market also derives from historical developments: Gazp o as o dramatically from $10 a barrel to $143 a barrel, dragging European gas prices up with them. During this period, increased competition on the European gas market was beginning of the 21st century. Gazp o Between 1998 and 2008, international oil prices rose out of the o po atisatio a d a o pa ied a g eate use of spot t adi g : the trading of natural gas with prices based on supply and demand, rather than oil-indexation. partial privatisation of the Soviet Gas Ministry and the GAZPROM MONITOR ANNUAL REVIEW - Page 20 of 96 EGF Gazprom Monitor www.gpf-europe.com During the European economic downturn in 2008-10, their contracts with Gazprom. The stage was set for the the price of oil and gas fell, as did European oil and gas launch of the European Commission antimonopoly demand. The price of oil reached $33 a barrel at its investigation into Gazprom. lowest point in December 2008. But while oil prices rebounded to $75 a barrel by October 2009 and $100 a barrel by February 2011, European gas demand The investigation is launched (2011-12) remained subdued, meaning that the market was over- In September 2011, European Commission Antitrust supplied. As a esult, Eu opea investigators raided the offices of energy companies in atu al gas spot p i es oil-indexed ten EU Member States, amid concerns over their counterparts. Furthermore, companies that imported contractual relations with Gazprom. The member states gas under long-term, oil-indexed contracts were also involved include Germany (E.ON, RWE, Gazprom remained ou d substantially lower the take-or-pa their lauses i those o t a ts, Germania), Austria (OMV, Econgas), Poland (PGNiG, TSO which stipulated minimum annual purchase volumes. Gaz-System), the Czech Republic (RWE Transgas, This left many European energy companies obliged to Vemex), Slovakia (SPP), Hungary (E.ON Magyarorszag), buy more gas than they needed at uncompetitive prices, Latvia (Latvijas Gaze), Lithuania (Lietvos Dujos), Estonia in (Eesti Gaas), and Bulgaria (Bulgargas, Bulgartransgas, accordance with their oil-indexed, long-term Overgas). At the beginning of September 2012, European contracts. It was at this point that several significant issues became apparent: Firstly, the extent to which oil-indexation was Commission Antitrust investigators formally launched their investigation of Gazprom. still justified as a method of gas pricing. Secondly, the The fact that the initial raids coincided with the launch of right of energy companies to re-export imported gas – a EU legal proceedings against 18 EU member states that p a ti e ofte fo idde lauses i gas had failed to transpose EU Third Energy Package supply contracts. Third, the practical ability of energy legislation suggests that the investigation into Gazprom companies to buy or re-sell gas, which must be is part of a broader effort by the European Commission transported using infrastructure (pipelines) owned by to ensure the development of competitive, liberalised other EU internal gas market. companies. desti atio Fourthly, despite commercial confidentiality, reports emerged of energy companies in A week after the launch of the investigation, the Russian different EU member states paying dramatically different President, Vladimir Putin, raised the stakes by signing prices for their imported gas – a practice made possible the Decree on the Measures for Protecting the Interests desti atio lauses , hi h p e e t p i e a it age. of the Russian Federation in the Course of Foreign Trade During this period, Gazprom negotiated discounts with Operations Performed by Russian Legal Entities. several of its European clients, particularly large energy The decree stated that strategic companies such as companies in Western Europe. Other companies Gazprom launched arbitration proceedings in the hope of not only operations to foreign countries, companies, and obtaining discounts, but of fundamentally restructuring regulators, sell foreign assets, and alter contracts with may disclose information about their GAZPROM MONITOR ANNUAL REVIEW - Page 21 of 96 EGF Gazprom Monitor www.gpf-europe.com foreign entities only with the permission of the European Commission expressing concerns that the authorised antimonopoly investigation would be seen as being Russian federal agency. The decree generated fears that the commercial dispute with unduly politically motivated. Gazprom could escalate into a diplomatic dispute On the 1st of November 2014, a new team of between Brussels and Moscow. Commissioners was appointed to serve under the new President of the European Commission, Jean-Claude Juncker. Almunia was replaced as EU Competition What were investigators looking for? Commissioner by Margrethe Vestager. The role of According to the European Commission, Gazprom is suspected of breaching Articles 101 (restriction of competition) and 102 (abuse of dominant position) of the Treaty on the Functioning of the EU (TFEU). The Energy Commissioner was renamed Energy and Environment Commission, with that role being taken by Miguel Arias Cañete. A new role, Commissioner for Energy Union, taken up by Maroš Šefčo ič. investigation was concluded when the investigators had gathered enough evidence to build a case against Gazprom, including formal complaints that detail exactly how Gazprom may have breached Articles 101 and 102. These complaints a e e plai ed i a fo al do u e t, efe ed to as a state e t of o je tio s . Put si pl , the document gives details of those actions that the European Commission finds objectionable and, In April 2015, the European Commission issued its statement of objections. The document outlined three ways in which Gazprom may have engaged in anticompetitive practices: • First, Gazprom may be hindering cross-border gas sales, by preventing the re-export of imported gas. • potentially, in breach of European Union law. Second, Gazprom may have imposed unfair prices on its customers, and may have used formulae linking the price of gas to oil prices in order to do so. This includes charging unreasonably high prices for The European Commission issues its statement of some countries and lower countries for others, objections (April 2015) despite having similar supply (e.g. transportation) Reports suggest that the European Commission began preparing its statement of objections in autumn 2013. Between late 2013 and early 2014, a series of meetings took place between representatives of Gazprom, the EU Competition Commissioner, Joaquin Almunia, and the EU Energy Commissioner, Gunther Oettinger. costs. • Finally, Gazprom may have abused its dominant position by making the suppl of gas o ditio al o obtaining unrelated commitments from wholesalers o e i g gas t a spo t i f ast u tu e . However, the emergence of the political crisis in Ukraine, Gazprom was initially granted 12 weeks in which to reply developments in Crimea, and the worsening of EU-Russia to the statement of objections. However, the deadline relations in spring 2014 apparently delayed the was subsequently moved back to the end of September. publication of the statement of objections, with the GAZPROM MONITOR ANNUAL REVIEW - Page 22 of 96 EGF Gazprom Monitor Gazpro www.gpf-europe.com s proposals September 2015) 2016: Quiet summer, busy winter On the 21st of September, Gazprom submitted its Representatives of the European Commission and proposals for an out-of-court settlement. A week later, Gazprom met again in Brussels on the 9th of March. Gazprom submitted its formal response to the statement Although no formal press releases were issued following of objections. Thereafter, Commissioner Vestager and the meeting, representatives of both sides told reporters he tea that the adopted a dual t a k app oa h: The assess Gazp o s fo ould al espo se to the state e t of objections and use it as a basis on which to continue preparing their legal challenge, whilst also considering Gazp o s proposals for an out-of-court settlement. eeti g had ee o st u ti e . The meeting planned for May 2016 did not take place, and no further significant events occurred during the summer. Then, in late October, reports emerged that the European Commission and Gazprom were close to settling the case, following a meeting between the two sides on the 26th of October. The first hearing (December 2015) On the 15th of December, an oral hearing took place in Brussels, as part of the European Commission antimonopoly investigation into Gazprom. The hearing took pla e at Gazp o s e uest, hi h is the legal ight of companies under investigation by EU regulators. Present at the hearing were the EU Competition Commissioner, Margrethe Vestager, the Deputy Chairman of the Gazprom Management Committee, Alexander Medvedev, and the Deputy Energy Minister of the Russian Federation, Alexander Yanovsky. Following the meeting, the EU Commissioner for Competition, Ma g ethe Vestage , stated, We ha e ade p og ess ut the e is still uite so e o k ahead , adding that Gazprom had to formally submit commitments that meet the Commission's objectives. The Commission would then launch a market test to give customers and other stakeholders the opportunity to submit their views. At the end of November, Medvedev announced: The negotiating process has ended, now we are in Following the hearing, which took place behind closed the e e utio stage… I thi k that doors, Medvedev issued a statement in which he agreement signed by our side no later than by a mid-December and surely before the Catholic ou ed that European Co We [Gazp o ] disagree with the issio s conclusions in particular when it comes to Gazp o s alleged excessive p i i g , e ill se d a Christmas [25th of December]. ut The reports and announcements of October and added that We remain committed to an open dialogue November generated the expectation of a significant with the European Commission in order to find a development before the Christmas holidays. mutually acceptable solution . For its part, a European Commission representative o fi ed that The Eu opea Co issio is ot setti g any time limits for finalizing the antimonopoly i estigatio agai st Gazp o . GAZPROM MONITOR ANNUAL REVIEW - Page 23 of 96 EGF Gazprom Monitor www.gpf-europe.com Gazprom submits its formal commitments (Dec 2016) Related legislation: Proposed update to EU regulation on On the 27th of December, Gazprom submitted its formal security of gas supplies (2016) commitments to the European Commission. Following In the 2015 edition of the Gazprom Monitor Annual the submission, Medvedev told epo te s: We hope Review, we examined the potential impact of relevant that the commission — and ultimately the markets — legislation, in the form of the EU Directive on Antitrust will respond positively to our proposal . In response to Damages Actions, which was signed into EU law on the the submission, a European Commission spokesperson 26th of November 2014. stated: In this edition, we examine a proposal put forward by The commission will now carefully assess if they the European Commission on the 16th of February 2016, [the commitments] address, in a forward-looking to update its 2010 regulation on the security of gas manner, the commission's competition concerns supplies. The new proposal has been passed to the in line with EU antitrust rules… To be effective, European Parliament and European Council for further the commitments would have to ensure the free consideration before it becomes binding. flow of gas in central and eastern Europe at The 2010 regulation obliged all EU member states to competitive prices. formulate risk assessments (assessing the risk of a crisis), This announcement reflected the original statement of Preventive Action Plans (how to avoid a crisis) and objections, in which the European Commission criticised Emergency Plans (to deal with a crisis should one arise) the use of destination clauses, the linkage of gas prices in order to improve national energy security. to infrastructure projects, and the use of oil-indexation as a tool for the imposition of non-competitive prices. In a provision of relevance to Gazprom, the proposal foresees a mechanism for improving the transparency of gas supply contracts with suppliers from non-EU countries. Under this mechanism, when a company Expected short-term developments in 2017 As oted a o e, the su issio of Gazp o s commitments will be followed by a period of assessment by the European Commission. If the Commission approves of the commitments, they will be put out to a market test, to generate feedback from stakeholders. If the market test is successful, the European Commission will make the commitments legally binding on Gazprom, concludes a contract of more than one year in duration with a supplier (such as Gazprom, Statoil, Sonatrach, or Qatargas) whose share of gas consumption in that state is 40 percent or more, they should inform the o pete t (national) authority and the European Commission of the following: Contract duration, delivery volumes, delivery points, and conditions for a suspension of deliveries. with the threat of a fine based on annual global turnover for breach of those commitments. GAZPROM MONITOR ANNUAL REVIEW - Page 24 of 96 EGF Gazprom Monitor www.gpf-europe.com According to Eurogas, in 2014 Russian (Gazprom) gas supplies accounted for 40 percent or more of total gas consumption in 13 EU states: Austria, Bulgaria, Czech Republic, Estonia, Finland, Germany, Greece, Hungary, Latvia, Lithuania, Poland, Slovakia, Slovenia. Russian gas also accounted for 39 percent of Italian gas consumption, while the share of Russian gas in total EU- Analysis: Moving closer to a final settlement It has been more than five years since European Commission antitrust investigators raided the offices of energy companies across ten EU member states, triggering the beginning of one of the most significant antimonopoly investigations undertaken by the European Commission. In that time, both the European 28 gas consumption was 28 percent. gas market, and Gazp o For comparison, Norwegian gas accounted for 40 operations on that market, have changed substantially. percent or more of national gas consumption in Austria, Belgium, France, and Germany. Given that Statoil markets about 70-80 percent of Norwa s gas e po ts, it is only in Belgium and France that gas purchased from Statoil accounts for more than 40 percent of national consumption. The same is true for Sonatrach only regarding its exports to Spain, and does not affect Qatargas. Therefore, the new measures will affect s o e ial st ateg fo its Let us recall that the antimonopoly investigation into Gazp o s a ti ities o the Eu opea a ket has focused on three contentious issues: The alleged prevention of the re-export of imported gas through desti atio lauses i gas suppl o t a ts; the li kage of gas supply contracts to the ownership or construction of gas pipeline infrastructure; the use of oil-indexation to impose non-competitive prices. Gazprom to a far greater extent than its competitors. More than a decade ago, in July 2002, Gazprom reached At the EU Council of Ministers on the 5th of December 2016, Energy Ministers from all 28 EU member states debated amendments to the 2010 EU regulation on security of supply. Specifically, ministers agreed that: Long-term contracts which provide 40% or more an agreement with the European Commission to not include destination clauses in its future gas contracts. In October 2003, destination clauses were removed from Gazp o s o ta t e o ed f o Gazp o ith E i. I s o t a ts , the e e also ith OMV a d E.O of annual gas consumption in the member state Ruhrgas. During this period, Statoil and Nigeria LNG also concerned would be notified to the competent agreed to remove destination clauses from their long- authority. They would be assessed by the term gas export contracts. By 2007, the Algerian competent authority, with regard in particular to Sonatrach had also agreed to remove destination clauses their impact on the security of gas supplies in the from its long-term gas export contracts. It would not be member state and the region. an insurmountable step for Gazprom to remove Ministers also agreed that intergovernmental agreements (IGAs) relating to natural gas would be scrutinised before they enter into force, while IGAs territorial restrictions from its contracts with its customers in the Baltic, Central European, and SouthEast European regions of the EU. relating to oil and electricity would be scrutinised only As part of a shift in its broader strategy, Gazprom also after they enter into force. appears to have moved away from seeking ownership of GAZPROM MONITOR ANNUAL REVIEW - Page 25 of 96 EGF Gazprom Monitor www.gpf-europe.com gas pipeline infrastructure on EU territory. In addition to gas imports for many EU member states. The abolition of selling its stakes in Amber Grid (Lithuania), Eesti Gaas territorial restrictions, in concert with the development (Estonia), and Gasum (Finland), the abandonment of of new infrastructure, will enable cross-border sales by South Stream was followed by the proposal of projects both companies that currently benefit from lower prices that explicitly avoided the construction of pipelines on under long-term contracts and by companies that EU territory (Turkish Stream and Nord Stream 2). purchase gas on European spot markets. Under these This leaves pricing as the key issue for negotiation. The conditions, it is more difficult for a supplie to isolate a concern of the European Commission is not oil-indexed national market and impose non-competitive prices. pricing per se, nor even the existence of different prices Furthermore, the fall in oil prices in the second half of in different countries in principle, but rather the use of 2014 brought oil-indexed gas prices closer to spot prices, different oil-indexed formulae to produce substantially making it easier for suppliers to shift from oil-indexation different gas prices for different EU states. to spot-indexation. For example, Lithuania endured higher prices than Finally, Gazprom has gained substantial experience in Germany or the UK, despite having vastly lower gas trading on the European market through its transportation costs for the delivery of Russian gas. This subsidiary, Gazprom Marketing and Trading Ltd since was because Lietuvos Dujos had far less bargaining 1999. In addition, between September 2015 and power than large energy companies in the UK, as it September 2016, Gazprom Export held three auctions imported smaller volumes and was (until December for gas export sales to the Baltic states and north- 2014) entirely reliant on imports from Russia. western Europe. As such, Gazprom is developing the From the perspective of the European Commission, Gazp o s use of its o opol positio to p ess fo higher prices in Lithuania, and willingness to fight for ability to engage in flexible gas trading, which could give the company the confidence to move over to spotindexation in its long-term contracts. market share by offering lower prices in the UK and Overall, price levels and pricing mechanisms remain the Germany, constituted a a use of Gazp o key issue in the antimonopoly case. In the short term, it s o opol position in Lithuania. The Commission suspects that will be difficult for the European Commission to rule Gazprom may have similarly abused its monopoly upo a fai p i e fo Gazp o position in other EU member states that have a similar lack of alternative supplies. s usto e s. In the long term, market developments are pushing Gazprom to be more flexible and competitive. In this The development of new LNG import terminals (such as context, it is in the best interests for both parties to Klaipeda in Lithuania and Swinoujscie in Poland) and settle the case, rather than test the limits of the cross-border Co infrastructure (such as connections between Poland, Lithuania, Latvia, and Estonia, and the e e se flo s f o Ge a to Uk ai e ia the Cze h Republic and Slovakia) are opening up new sources of issio s a ilit to e gage i p i e-setting and, in the worst-case scenario, test both the willingness of the Commission to impose a fine on Gazprom and its ability to ensure the payment of such a fine. GAZPROM MONITOR ANNUAL REVIEW - Page 26 of 96 EGF Gazprom Monitor www.gpf-europe.com November 2011 and November 2012 respectively. Nord Stream However, due to delays, the NEL pipeline did not reach The Nord Stream project complete commercial operation until November 2013. The Nord Stream gas pipeline consists of two lines, each running under the Baltic Sea from Vyborg (Russia) to G eifs ald, o Ge a s o the oast ea the border with Poland. The capacity of each line is 27.5 bcm per year, giving a total capacity of 55 bcm. The two lines were launched in November 2011 and October 2012. The Nord Stream shareholders are Gazprom (51 percent), Wintershall (15.5 percent), E.On (15.5 percent), During these delays, NEL operated at approximately 20 percent capacity (4 bcm per year). OPAL has a capacity of 35 bcm per year. It transports gas from Nord Stream south to Olbernhau on the GermanCzech border, where it connects with the Transgas pipeline, which brings Russian gas to Germany via Ukraine, Slovakia, and the Czech Republic. At its midpoint, OPAL also connects with the Yamal-Europe Gasunie (9 percent), and ENGIE (9 percent). pipeline, which brings Russian gas to Germany via The 2015 edition of the Gazprom Monitor Annual Review Belarus and Poland. used statistical data to illustrate that Nord Stream has practically eliminated gas transit via Ukraine to Germany and North-Western Europe. We also analysed the u i te ded o se ue es of No d “t ea , a el the West-East flow of gas from Germany to Slovakia via the When it reaches the German-Czech border, the OPAL pipeline also connects with the Gazelle pipeline, which crosses the western Czech Republic from north to south, before re-entering Germany at Waidhaus. Czech Republic, which eliminated Czech dependence on NEL has a capacity of 20 bcm per year and runs west Ukrainian gas transit and even opened up the possibility from Greifswald to the Rehden underground gas storage of facility in North-Western Germany. From there, gas may e e se flo deli e ies of gas f o Eu ope to western Ukraine. flow to the Netherlands, Belgium, and the UK. During 2016 – a year in which most of the discussions Gazp o over Nord Stream related to its proposed expansion – se tio s of No d “t ea the most notable issue regarding the original pipeline percent shareholding in W&G Beteiligungs-GmbH & Co. as Gazp o s usage of the Ge a o sho e se tio s of Nord Stream, the OPAL and NEL pipelines. s pa ti ipatio i OPAL a d NEL as o sho e is th ough Gazp o s KG (W&G). W&G, previously known as Wingas, is a parity joint venture between Gazprom and BASF Wintershall. OPAL is 80 percent owned by the holding group W&G and 20 percent by E.ON. The NEL pipeline shareholders The OPAL and NEL gas pipelines are W&G (51 percent), Nederlandse Gasunie (25 For Nord Stream gas to be delivered to North-Western percent) and Fluxys Deutschland (24 percent). OPAL Europe or to Ukraine via the Czech Republic and Gastransport GmbH and NEL Gastransport GmbH, both Slovakia, it must pass through one of two pipelines: the 100 Baltic Sea Pipeline (OPAL) and the North European subsidiaries of W&G, operate the W&G shares of the Pipeline (NEL). OPAL and NEL were commissioned in OPAL and NEL pipelines respectively. percent-owned (but legally independent) GAZPROM MONITOR ANNUAL REVIEW - Page 27 of 96 EGF Gazprom Monitor www.gpf-europe.com The principle of third party access Applying the principle of TPA to OPAL and NEL EU gas a ket legislatio p o ides fo thi d pa t a ess Gazprom and its German partners have long argued that (TPA) to gas pipelines. This principle means that OPAL and NEL are extensions of Nord Stream, and operators of pipeline infrastructure must allow other should therefore be exempt from EU legislative energy companies to utilise that infrastructure, if there is requirements concerning third party access to gas spare capacity. In some cases, in order to prevent pipelines. The possibility of such exemptions, for a monopolisation of pipeline infrastructure, national defined period of time, is provided for in Article 36 of the regulatory authorities (NRAs) may oblige infrastructure Third Gas Directive (European Parliament and Council operators to reserve a set percentage of the pipeline Directive 2009/73/EC). capacity for use by third parties. To this end, OPAL Gastransport and NEL Gastransport, However, the capacity to be reserved for third parties is the operators of OPAL and NEL, applied for such not explicitly specified in the Third Gas Directive. exemptions from the German government. OPAL I stead, A ti le Gastransport was granted the exemption in March 2009, Thi d Pa t A ess si pl states: valid for 22 years from the commissioning of the Member States shall ensure the implementation pipeline. of a system of third party access to the transmission and distribution system, and LNG The request by NEL Gastransport, however, was not facilities based on published tariffs, applicable to granted by German authorities. Therefore, shippers can all book up to 100 percent of the capacity of the NEL eligible customers, including supply undertakings, and applied objectively and without pipeli e th ough the P‘I“MA platfo discrimination between system users. capacity Rather, the specification of how much capacity must be specifically reserved for , ith o fi the pipeline shareholders (NEL Gastransport and E.ON). reserved for third parties is the prerogative of the In March 2012, the OPAL exemption was challenged by European Commission and relevant NRAs. the European Commission. This marked the beginning of Despite the lack of a clear ruling, reports have suggested that Gazprom must reserve 50 percent of the capacity of a long period of lobbying by Gazprom and its partners to have the original exemption re-instated. OPAL and 35 percent of the capacity of NEL for third party access. If these restrictions are enforced, Gazprom will be able to deliver a maximum of 17.5 bcm per year Project in limbo: Waiting game for a European Commission ruling on OPAL via OPAL and 13 bcm per year via NEL. This would est i t Gazp o bcm per year – s deli e ies ia No d “t ea . pe e t of No d “t ea to s apa it . . In February 2014, the German energy regulator, BundesNetzAgentur (BNetzA), proposed a compromise solution, whereby Gazprom would be granted 50% of the capacity of OPAL. The remaining 50% would be allocated using a capacity auction, with the first auction GAZPROM MONITOR ANNUAL REVIEW - Page 28 of 96 EGF Gazprom Monitor www.gpf-europe.com proposed for July 2014. However, that auction was given strong European Commission support for the cancelled, and the European Commission announced its continuation of gas transit via Ukraine. agreement with BNetzA to prolong indefinitely the deadline for a decision on OPAL. Secondly, it is unlikely that OPAL and NEL would have been built if Gazprom had not expected exemptions, given that the capacities of OPAL and NEL match that of Possible grounds for an exemption Nord Stream. Gazprom may have a case here, given that Article 36 of the EU Third Gas Directive sets out the the original exemption for OPAL was granted two and a conditions that must be met if a pipeline is to receive an half years before the pipeline was commissioned. The exemption from the provisions of unbundling and third case regarding NEL is weaker, given that BNetzA had party access. These conditions include: rejected the application for an exemption before 1. The investment must enhance competition in gas supply and enhance security of supply; 2. The level of risk attached to the investment must be such that the investment would not take place unless an exemption was granted; construction of the pipeline began. Thirdly, OPAL and NEL are owned by entities that are legally separate from the entity that operates the system in which they have been built (Gascade – a legally separate subsidiary of W&G). Fourthly, charges will be levied on the users of OPAL and NEL. 3. The infrastructure must be owned by a natural or legal person which is separate at least in terms of its legal form from the system operators in whose systems that infrastructure will be built; The major problem faced by Gazprom was that because Gazprom is already dominant in the German gas market, EU regulators may consider that OPAL and NEL do not enhance competition on the German gas market, and 4. Charges must be levied on users of that infrastructure; 5. The exemption must not be detrimental to indeed may harm competition by further entrenching Gazp o s do i a t positio . Gazpro s gas au tio for deli eries ia OPAL a d NйL competition or the effective functioning of the internal market in natural gas, or the efficient functioning of the regulated system to which the infrastructure is connected. Gazprom may be able to its case on the basis of the following points. Firstly, it may be argued that OPAL and NEL (as part of Nord Stream) enhance security of supply, if Gazprom can successfully prove that the greater threat to European energy security is instability in Ukraine, (September 2015) In the 2015 edition of the Gazprom Monitor Annual Review, we analysed the possibility of Gazprom utilising extra capacity of OPAL and NEL by holding a gas sale auction at the St Petersburg International Mercantile Exchange (SPIMEX). rather than dependence on Russian gas imports per se. The auction was held from the 7th to the 10th of However, Gazprom is unlikely to succeed in this regard, September 2015, during which time 1.23 bcm of gas was sold, of the 3.23 bcm that was available. The gas was GAZPROM MONITOR ANNUAL REVIEW - Page 29 of 96 EGF Gazprom Monitor www.gpf-europe.com sold in small lots, for delivery to one of three delivery However, following the auction, the Deputy Chairman of points: Gazp o Griefswald/NEL; Griefswald/OPAL; and Olbernhau II (for entry into the Czech Republic). The gas s Ma age e t Co ittee, Ale a de Medvedev, issued the following statement: sold on this auction was delivered between the 1st of Gas auctions represent a good additional October 2015 and the 31st of March 2016. opportunity to market natural gas in Europe. In addition to traditionally strong interest to Greifswald delivery point, during the latest The Commission reconsiders the OPAL case (May 2016) auction about one quarter of the total volumes In May 2016, Gazprom reportedly reached an agreement with the German gas market regulator, was sold with delivery to [the] Austrian the Baumgarten [delivery point]. Interestingly, not a Bundesnetzagentur. The details of that agreement have single lot was sold at the OPAL direction. It proves not been made public, but the agreement appears to that OPAL pipeline capacities are still demanded have triggered a request on the 13th of May from the by nobody but Gazprom. Bundesnetzagentur to the European Commission, to reconsider Co the issio case. In spokes o a response, a stated: The European i te al procedures for the Commission decision concerning The gas sold at this auction will be delivered during the winter season, between the 1st of October 2016 and the 1st of April 2017. Each lot offered 60 MegaWatt Hours per Hour (MWh/h) (or 1,440 MWh/day) on each day of OPAL ha e o sta ted agai . the Delivery Period in a flat hourly profile. The auction However, on the 22nd of July, reports emerged that the was divided into four sections. European Commission would once again delay its final uli g o the OPAL pipeli e, a d had e uested fu the te h i al i fo atio f o the BNetzA. Auction A offered gas for offtake at either the Greifswald NEL or Gaspool VP delivery points. Greifswald NEL refers to the poi t at the Ge Greifswald a sho e of the Balti “ea ea where the Nord Stream pipeline is Gazprom holds a second European gas sale auction connected to the NEL pipeline (Nordeuropäische (September 2016) Erdgasleitung), while the Gaspool VP delivery point Over the course of three days, from the 31st of August to efe s to the i tual t adi g poi t of the a ket a ea of the 2nd of September, Gazprom held its second auction GA“POOL Bala i g “e i e G for the sale of natural gas to the continental European Auction B offered gas for offtake at the Olbernhau II a ket. A o di g to Gazp o o t a ts ith E po t s p ess elease, usto e s for total volumes about 2 of gas ill e sig ed . H, Be li , Ge a . delivery point, which is the cross-border interconnection point on the German-Czech border near Olbernhau. Au tio C offe ed gas at the G eifs ald OPAL e e pted Gazprom has not released details of its counterparties, delivery point, where the Nord Stream pipeline connects the average price at which the gas was sold, or the to specific volumes sold for each delivery point. pipeli e. This deli e the OPAL (Ostsee-PipelineAnbindungsleitung) poi t is efe ed to as G eifs ald GAZPROM MONITOR ANNUAL REVIEW - Page 30 of 96 EGF Gazprom Monitor OPAL e e pted , e ause Gazp o www.gpf-europe.com ill ot a t as the 50% of OPAL's capacity will be exempt from third shipper of gas through the OPAL pipeline – The buyer party access rules and the operation of the other must reserve delivery capacity with the owner-operator 50% of the pipeline capacity will be covered by of the OPAL pipeline, OPAL Gastransport. Therefore, st i ge t EU su h In its decision, the Commission notably requests deli e ies ae e e pted fo Gazp o s maximum usage of the OPAL pipeline, in the capacity of a ket ules… that a significant amount of the pipeline's capacity shareholder in OPAL Gas Transport. has to be made available as a reliable – so called Auction D offered gas for offtake at the Baumgarten "firm" – capacity for competitors. Under given delivery point, on the border between Austria and conditions, the Commission may even revise this Slovakia near Baumgarten, or at the Arnoldstein delivery threshold further upward. In addition, companies point, on the border between Austria and Italy. with a dominant position on the Czech market are Fo not allowed to outbid other users of the pipeline Gazp o s pe spe ti e, the la k of i te est a o g buyers regarding the possibility of taking delivery of gas fo this apa it … at the Greifswald OPAL suggests that no other The exemption framework will, as was the case companies are interested in using the OPAL pipeline, and under the earlier decision, be applicable until that OPAL is only useful for Gazprom in delivering gas via 2033. Following this date, standard regulatory Nord Stream to the Czech-German border. This view is provisions will fully apply to the OPAL pipeline. supported by the fact that Gazprom is the only company The decision is binding on the German energy feeding gas into the OPAL pipeline and Nord Stream is regulatory authority with immediate effect. the only means of doing so. The only way in which this situation could change would be if other companies began exporting gas from Russia via Nord Stream – Something which is highly unlikely in the near future. Specifically, 20 percent of the capacity of OPAL from the Gaspool hub in northern Germany has to be made a aila le i ase of de a d, as fi apa it fo competitors. According to OPAL Gastransport, 50 percent of the The European Commission delivers a ruling on third party capacity of OPAL was reserved for OPAL Gastransport, access to OPAL (October 2016) while 50 percent would be auctioned via the PRISMA On the 28th of October, the European Commission platfo approved new rules for the operation of the OPAL Therefore, of the 36 bcm capacity of OPAL, 50 percent pipeline. According to a European Commission press (18 bcm) is exempt from Third Party Access provisions, release: while 20 percent (7.2 bcm) must be reserved for third Since its launch in 2011, OPAL has been to a 100% exempt from EU internal energy market rules on , as pa tiall egulated apa ities. parties. The remaining 30 percent (10.8 bcm) is available for bidding from all parties, including Gazprom. third party access and tariff regulation. Now, While Gazprom – as a company with a dominant position according to the revised decision, the use of only on the Czech market – may not be allowed to outbid GAZPROM MONITOR ANNUAL REVIEW - Page 31 of 96 EGF Gazprom Monitor competitors for this remaining 30 percent capacity, the fact that OPAL receives gas from Nord Stream suggests that there will be little demand for this capacity from other companies. Theoretically, if no competitors bid for any OPAL capacity, Gazprom could use up to 80 percent of OPAL s apa it – equal to 28.8 bcm. www.gpf-europe.com I a p ess elease, Piot Woź iak, CEO of PGNiG, stated: They are destroying the development of the competitive gas market and expanding the privileges enjoyed by Gazprom, which can in turn lead to the Russian company acquiring a monopoly in the supply of gas to Central and Eastern Europe. This is a serious threat to the PGNiG challenges the European Commission ruling on OPAL (December 2016) The German regulator, BNetzA, began to implement the security of gas deliveries to Poland and the entire region. The p ess elease fu the la ifies PGNiG s lai s: Commission ruling, signing an agreement with Gazprom In the opinion of the PGNiG Group the decision by and the OPAL pipeline operator, OPAL Gas Transport, on the European Commission regarding the OPAL gas the 28th of November. That agreement was due to enter pipeline violates EU regulations concerning into force on the 31st of December 2016. competition on the European natural gas market, Gazprom held its first auction for monthly capacity on the OPAL pipeline on the 19th of December, for capacity usage in January 2017. Virtually all of that capacity was sold, which subsequently resulted in record flows through OPAL in early January. Treaty regulations on legal certainty, regulations addressing the protection of third parties and proportionality, as well as the terms of the association agreement between the EU and Ukraine. Furthermore, in the process of making its decision the Commission acted in a discriminatory However, on the 4th of December, PGNiG Supply & manner. Trading (a German subsidiary of the Polish PGNiG), filed a suit at the European Court of Justice, challenging the Commission ruling of the 28th of October. PGNiG also challenged the fact that the European Commission and the BNetzA had not yet published the full text of the ruling from the 28th of October. On the 15th of December, PGNiG and PGNiG Supply & Trading challenged the agreement between BNetzA, OPAL Gastransport, Gazprom, and Gazprom Export of the 28th of November at the Higher Regional Court of Appeals in The PGNiG challenge was supported by an additional challenge lodged by the Polish government on the 16th of December. As a result, a European Court of Justice (ECJ) tribunal suspended the European Commission s ruling on the 23rd of December. The suspension was confirmed by PGNiG on the 27th of December. The PGNiG-BNetzA / OPAL Gastransport / Gazprom / Gazprom Export case has now been referred to the Higher Regional Court of Appeals in Dusseldorf. Dusseldorf. PGNiG also demanded the suspension of the The ECJ tribunal is expected to give its opinion in implementation of the BNetzA-Gazprom agreement, January, with a final ruling by the ECJ to follow, although before it entered into force. there is no specific deadline for that final ruling. GAZPROM MONITOR ANNUAL REVIEW - Page 32 of 96 EGF Gazprom Monitor www.gpf-europe.com The fact that the ECJ ruling of the 23rd of December was European gas market is more difficult to sustain, given published after the first OPAL capacity auction (on the that Gazprom already benefits from substantial capacity 19 th of December) means that the results of the first auction will stand, but no further auctions will take place until a final ruling is made. to deliver gas to Central Europe via Ukraine. Looking forward to 2017, it is entirely possible that the Polish challenge to the Commission ruling, and to the multilateral agreement between BNetzA, OPAL Gastransport, Gazprom, and Gazprom Export could run Analysis and prognosis on for months, meaning that the practical situation in After years of debate, the European Commission ruling terms of gas flows may remain unchanged from 2015. of October 2016 appeared to have settled the question of Gazp o s use of the OPAL pipeli e, as pa t of the Interestingly, while lobbying for the exemption between 2012 and 2016 required Gazprom and its German original Nord Stream project. partners to justify its access to OPAL, the Polish While the guaranteed access to 50 percent of the OPAL pipeli e s apa it as less tha the complete exemption that Gazprom had originally lobbied for (and received from BNetzA in 2009), the fact that Gazprom is the only company pumping gas into Nord Stream and challenge now requires the European Commission and BNetzA to justify the granting of a partial exemption from TPA provisions to the operation of the OPAL pipeline, ea i g that the u de of p oof has essentially moved from Moscow to Brussels. that Nord Stream is the source for gas flows into OPAL make it unlikely that Gazprom will face competition when bidding for the 30 percent of OPAL capacity that the October ruling made available. Gazp o s gas sales auctions in September 2015 and September 2016 appeared to confirm this. Finally, the European Commission appeared satisfied ith the ese atio of pe e t of the fi apa it for competitors, and the option of increasing the share of that reserved capacity if necessary. Despite Gazp o s p otestatio s, it is highl likel that increased gas flows via OPAL (and, by extension, Nord Stream) will result in further declines in gas transit via Ukraine. This would be a continuation of developments analysed in the 2015 edition of the Gazprom Monitor Annual Review. The argument of PGNiG and the Polish government that the expansion of Gazp o OPAL ill i ease Gazp o s a ess to s do i a e of the Ce t al GAZPROM MONITOR ANNUAL REVIEW - Page 33 of 96 EGF Gazprom Monitor www.gpf-europe.com Nord Stream 2 Stream-2 project is no rival to the Turk Stream project. Background to the project Over the past four and a half years, we have seen the Gazprom leadership change its mind several times regarding its proposed expansion of Nord Stream Mille s o e ts e ho Gazp o original Nord Stream project—that the project is necessitated by rising export volumes, rather than a desi e to i u through the Nord Stream 2 project. The project was proposed in October 2012, on the occasion of the launch of the second line of the original Nord Stream pipeline. This was followed by several years s justifi atio s for the e t Uk ai e. However, as with Nord Stream I, statistical evidence appears to contradict these claims. In the context of European gas demand that fluctuates between stability and gradual decline, rising European imports will be of feasibility studies. necessitated in line with European production that is However, at the 8th Annual European Gas Conference in Vienna at the end of January 2015, the Chairman of the declining faster than demand. However, these increased imports will be distributed among several gas suppliers. Board of Directors of Gazprom, Viktor Zubkov, announced that Gazprom had abandoned plans to expand the Nord Stream pipeline. Zubkov cited uncertainties over price and demand levels on the European gas market, a d o pli ated Eu opea politics in relation to gas market regulation. Here, By 2019, we may see a mid-te glut of LNG o the world market, as new export projects in Australia and the United States hit the market and face saturated a kets i Japa a d “outh Ko ea the o ld s la gest LNG importers). Much will depend on levels of LNG Zubkov specifically referred to the refusal of the demand in growing markets – notably China and India – European Commission to grant an exemption to a d the o petiti e ess of Gazp o Gazp o fo its use of No d “t ea s o sho e Ge a s Eu opea e po ts in the context of subdued European spot prices. However, Gazprom will certain be able to congratulate sections, OPAL and NEL: itself on a huge success if its European imports grow by We were not allowed access to OPAL. Why build two more arms? We are not building them. 55 bcm (the proposed capacity of Nord Stream 2) over the next five years. Six months later, at the St Petersburg Economic Forum, on the 18th of June 2015, the Gazprom CEO, Alexei Miller, revealed that the Nord Stream expansion was The project moves forward (June-September 2015) back on the table. In making his announcement, Miller Mille s Ju e a focused on declining European gas production and the Economic Forum that Nord Stream 2 was back on the related increases in European gas import demands: table It is not about any transit volumes or the so-called old gas, it is o l a out e olu es. The No d was ou e e t at the “t Pete s u g accompanied by the signing of a Memorandum of Intent by representatives of Gazprom, E.On, Shell, and OMV. GAZPROM MONITOR ANNUAL REVIEW - Page 34 of 96 EGF Gazprom Monitor www.gpf-europe.com Indeed, in making the announcement, Miller suggested that the pre-investment and pre-design activities had continued between 2012 and 2014, the project financing (30 percent from participants and 70 percent project financing from loans, as with the first two lines of Nord Stream) had been agreed, and that the route had been Nord Stream 2 linked with Baltic LNG (October 2015) In October, Miller announced that Nord Stream 2 is planned to enter the Baltic at Ust-Luga, 110 km west of St Petersburg, near the Estonian border. Nord Stream 1 enters the Baltic Sea north of St Petersburg, at Vyborg, close to the Russia-Finland border. According to Miller: decided, through the exclusive economic zones of Russia, Finland, Denmark, Sweden, and Germany. Furthermore, Miller claimed that the budget for FrontEnd Engineering and Design (FEED) had already been drawn up, and that Gazprom was ready to proceed with are also resolving the issue of gas supply to the Le i g ad ‘egio … It ill p o ide additio al opportunities for establishing gas-consuming manufacturing facilities. FEED work. On the 12th of August, the OMV CEO, Rainer Seele, gave a live web conference, in which he discussed the proposed Such a decision was made because this way we Nord Stream 2 project. During o fe e e, he stated that Fo OMV… this also that ea s Ust-Luga is already the location of a major oil and container export terminal, and is set to further increase its importance as a centre of Russian exports. Ust-Luga is also the site of Gazp o s p oposed Balti securing supply flows to the Central European gas hub, LNG Bau ga te . This is significant, because it justifies the Kaliningrad and the Baltic Sea region, and for bunkering participation of OMV in the project and challenges the (re-fuelling LNG-fuelled vessels). Gazprom has suggested assertion that Nord Stream 2 is designed purely to that the terminal could have an export capacity of 10 supply north-western Europe to make up for declining million tonnes per year (approximately 13 bcm), gas production in the UK and the Netherlands. The although the project remains at the discussion stage. delivery of gas to Baumgarten would make Nord Stream In June 2016, Gazprom and Shell signed a Memorandum 2 a direct competitor to gas deliveries via Ukraine. of Understanding on the Baltic LNG project. In December On the 4th of September, the Gazprom CEO, Alexei 2016, following a visit to Japan by the Russian President, Miller, joined representatives from Wintershall, E.ON, Vladimir Putin, the Gazprom CEO, Alexei Miller, ENGIE (formerly GDZ Suez), OMV and Shell in signing a announced shareholder agreement for the Nord Stream II project. companies, Mitsui and Mitsubishi, could bring them into The agreement provides Gazprom with a 51 percent the Baltic LNG project as well. export terminal, for the export of LNG to that asset-swaps with the Japanese stake in the consortium, while E.On, Shell and Wintershall were granted 10 percent, and ENGIE 9 percent. In November 2015, Gazprom reduced its share to 50 percent, and ENGIE increased its share to 10 percent. The shareholder agreement unravels in the face of Polish opposition (July-August 2016) In December 2015, as part of the process of developing the project, the Nord Stream II consortium sent a GAZPROM MONITOR ANNUAL REVIEW - Page 35 of 96 EGF Gazprom Monitor www.gpf-europe.com request to the Polish anti-monopoly watchdog, the Carry on regardless: Nord Stream 2 AG signs contracts UOKiK U ząd O h o for pipe-coating, as first steel pipes are dispatched and Ko ku e ji I Ko su e tó , fo its approval of the project in relation to its effect on the application for construction permit is submitted to Polish gas market. Swedish authorities (September 2016) On the 22nd of July, the UOKiK issued a statement, in On the 6th of September, Nord Stream 2 AG finalised its which it raised objections to the project. In particular, contract with Wasco Coatings Europe (WCEu), a the UOKiK argued that the concentration of gas subsidiary of the Malaysian Wah Seong Corporation deliveries via a single route would lead to a restriction of (WSC), for the concrete weight coating, storage, and o petitio , gi e Gazp o s al ead -dominant position logistics for steel pipes for the Nord Stream 2 pipeline. in the supply of natural gas to Poland. In the statement, Wasco was the successful bidder in a tender that was the UOKiK also noted that, in raising its objections, it had awarded in July 2016, with the contract worth €600m. canvassed the opinions of a range of actors from Pola d s atu al gas According to the Nord Stream 2 press release: a ket. Wasco will operate an existing weight coating Although the Nord Stream II pipeline will not pass through Polish territory, the UOKiK must give its approval for the formal transfer of shares in the Nord Stream II project company to its consortium members (Shell, Uniper [EON], Wintershall, OMV and Engie), on the basis that these consortium members own assets in plant in Kotka, Finland, and a second plant in Mukran Germany, as well as three storage yards located around the Baltic Sea for storing the pipes. Hanko, Finland will be one of those three storage locations, with the two other ports to be located in Sweden at sites still to be confirmed. Poland, and that their actions could have implications for the o petiti e ess of Pola d s do esti a ket. The first pipes will be delivered from pipe mills to the coating plant in Kotka end of September and However, on the 12th of August, Nord Stream 2 AG announced that it was withdrawing its request to t a sfe sha es i the JV to Gazp o to Mukran early November. Coating operations will start in the first quarter of 2017. s fo eig pa t e s. In the same press release, Nord Stream 2 AG explain the In a statement, Nord Stream 2 AG noted: purpose and process of weight-coating: All the applicants believe that the project is crucial for the European energy system and each of them will therefore individually contemplate alternative ways to contribute to it. appli a ts de isio to ithd a The the otifi atio will not affect the continuation by Nord Stream 2 Steel pipes will be transported from the pipe mills to the coating plants, from where the coated pipes will be trans-shipped to the storage yards and later to pipe-lay barges by pipe carrier vessels. AG of the construction of the Nord Stream 2 At the coating plants, the concrete weight coating pipelines as planned, including its scheduling. added to the high-density steel pipes will double their weight to 24 tonnes per pipe on average. GAZPROM MONITOR ANNUAL REVIEW - Page 36 of 96 EGF Gazprom Monitor www.gpf-europe.com The coating ensures the stability of the pipeline of the question of third party access to connecting on the seabed. A total of approximately 200,000 pipelines on EU territory. concrete weight coated pipes, each 12-metre long On the 16th of September Nord Stream 2 AG announced and 48-inch in diameter, will be needed for the twin pipeline system. that it had submitted its first application for a construction permit for Nord Stream 2. The Swedish When construction starts in 2018, half of the section of Nord Stream 2 is planned to run 510 km along pipes have to be concrete weight coated and the “ edish readily available at the logistics sites along the Exclusive Economic Zone (EEZ) but outside Swedish pipeline route to meet the Nord Stream 2 territorial waters. According to Nord Stream 2 AG: construction schedule. o ti e tal shelf, th ough “ ede s The application includes a detailed technical In keeping with that schedule, the finalisation of the description, contract with Wasco was followed three weeks later by study (EIA) and atlases, and was filed to the the announcements that the Vyksa Steel Works (VMK) - Ministry of Enterprise and Innovation, in charge of a subsidiary of the Moscow-based United Metallurgical the dossier. Company (OMK) - had dispatched its first rail delivery of steel pipes from its factory in Nizhnyi Novgorod (Russia) to the Wasco-operated weight coating plant at Finnish port of Kotka. a comprehensive environmental The Swedish application is the first of five that will be submitted by Nord Stream 2 AG, with the remaining four applications to be submitted to the relevant authorities in Russia, Finland, Denmark and Germany in early 2017. The other Russian pipe company contracted to supply steel pipes for Nord Stream 2 – Chelpipe – dispatched its first delivery on the 27th of September from its factory in Termination of the Nord Stream 2 AG shareholder agreement (November 2016) Chelyabinsk. The third and final company to provide steel pipes for Nord Stream 2 – the German EUROPIPE – began its pipe construction in October and delivered its first pipes to a pipe-coating plant in Mukran, Germany, in November. A o di g to OMK, The pipes for the Nord Stream 2 (internal diameter of 1,153 mm, wall thickness of Following its withdrawal of its request to transfer shares in the Nord Stream 2 AG consortium, Gazprom and its European partners spent three months assessing their alternative options. Finally, on the 9th of November, the Gazprom Board of Directors took a unanimous decision to terminate the Nord Stream 2 shareholder agreement. 30.9mm and 34.6mm) with a three-layer external and The decision was publicised through a press release, but flow internal coating are made of SAWL 485 FD steel and was not reported on either the Gazprom or Nord Stream a e spe ified fo p essu e of up to 2 project websites. Fo thei pa t, Gazp o at osphe es . The progress on the steel pipes represented tangible progress for Nord Stream 2 against a backdrop of political controversy and the continued lack of resolution pa t e s a ou ed that the s Eu opea e e seeki g alte ati e a s of pa ti ipati g i the p oje t, leadi g to u h speculation but no concrete announcements. GAZPROM MONITOR ANNUAL REVIEW - Page 37 of 96 EGF Gazprom Monitor www.gpf-europe.com One step forward, one step back (December 2016) geotechnical surveys are carried out in the Bay of In early December, Gazprom announced that the Nord G eifs ald s offsho e a d o sho e a eas t a e sed Stream 2 AG consortium (in which Gazprom is now the sole shareholder) had signed a letter of intent with Allseas for the laying of the first line of Nord Stream 2, with the option of laying a second line – The contract is by the pipeline. National Environmental Impact Assessment (EIA) reports are also under development, along with the consolidated EIA report. expected to be finalised in early 2017. Allseas has previous experience in this project, having laid part of Nord Stream 1 as a sub-contractor for Saipem, the Italian Ongoing elements: The proposed expansion of NEL and the EUGAL pipeline company contracted to lay the original Nord Stream pipeline in the Baltic Sea. During H2 2016, consultations took place regarding the proposed expansion of the capacity of the NEL pipeline, The good news of signing the contract with Allseas was then tempered by the setback that local authorities in Sweden had decided against leasing facilities to Nord which currently delivers gas from Greifswald (where Nord Stream makes landfall in Germany) across northern Germany towards the Dutch border. Stream 2 – namely, a port in Slite and a harbour in Karshamn – for the purpose of supporting pipe-laying. Commenting on the loss of Swedish facilities, Lars Grönstedt, Senior Advisor for Nord Stream 2 AG in Sweden, told the Swedish media: Specifically, it has been proposed that the capacity of the pipeline could be expanded through the construction of additional compressor station capacity. This would potentially enable NEL to receive gas supplies from the proposed Nord Stream 2 pipeline. To use the port of Slite for pipe storage is optimal from a logistics point of view. If this port cannot be used, another port will be used for pipe storage. It may be a bit more expensive and the environmental impact will be more significant as it will lead to longer ship transports. It is always outrageous to waste resources. But in a project with a total budget of about 8 billion euros (80 billion Swedish kroner), this additional cost is An event for stakeholders was held on the 21st of June, followed by a four-week consultation throughout August. The NEL shareholders (NEL Gastransport, Gasunie Deutschland Transport Services, and Fluxys Deutschland) are, along with ONTRAS and the GazpromWintershall JV, Gascade, the five TSO participants in the Mo e Capa it p oje t, eated to o du t a market survey to determine the need for new transport capacities for H gas at the boundaries of the GASPOOL insignificant. market area . Finally, on the 28th of December, Gazprom issued a press release, summarising the current state of the project: The fi e o e apa it pa t e s pu lished thei latest Supplementary Terms and Conditions of Business in Basic engineering is currently underway for the No d “t ea gas pipeli e s offsho e se tio a d the landfalls in Russia and Germany. Additional January, in preparation for the PRISMA capacity auctions that will be held on the 6th of March 2017. It is expected that these auctions could form part of the case justifying GAZPROM MONITOR ANNUAL REVIEW - Page 38 of 96 EGF Gazprom Monitor www.gpf-europe.com the expansion of regional capacity around the GASPOOL the East-West interconnector on the Slovakia-Austria market area, with specific relevance to the proposed border at Baumgarten is 79.3 bcm per year. expansion of NEL. If the bottleneck on the Czech-Slovak border is Gascade, Gasunie Deutschland Transport Services, and overcome, the combined capacities of OPAL and EUGAL ONTRAS, conducted a similar market survey in 2015 and, could be used to deliver Nord Stream (1+2) gas both to as a result, Gascade proposed a new pipeline: The Southern Germany (via the Gazelle pipeline across the European Gas Connecting Pipeline (EUGAL). EUGAL is a western Czech Republic) and to the Baumgarten hub, proposed 485km pipeline which could run from the hi h is lo ated lose to the oss oads he e the Baltic Sea to the German-Czech border, in parallel with borders of the Czech Republic, Slovakia, and Austria the existing OPAL pipeline. The proposed capacity of the meet. two-string pipeline is 51 bcm per year. Gas ade s pla fo EUGAL as a Given the lack of large-scale gas demand in South-East ou ed i Ma . Europe (Hungary, Romania, Bulgaria, Greece, Serbia, and The regional planning procedure, undertaken by the FYRM Macedonia), it appears that EUGAL is designed to Saxony regional government, began on the 1st of replace flows of gas to Austria, Italy, Slovenia, and December. According to a Gascade press release: Croatia, that are currently delivered from East to West The planning approval process will follow in mid- via Ukraine and Slovakia. 2017. The next step after approval is the start of construction of the pipeline, which is predominantly planned to have two strings. The Analysis: The economic case for Nord Stream II based on construction costs and transit fees first string will be built initially and is scheduled to be put into operation at the end of 2019. The At the end of May 2016, the Financial Director of the second string will be completed one year later. Nord Steam 2 project company, Paul Corcoran, stated The EUGAL pipeline is designed to transport gas from Nord Stream 2 to the German-Czech border. From there, it is highly likely that the gas supplies will be delivered to the Baumgarten gas hub, on the Slovakia-Austria border. that the cost of constructing the pipeline (i.e. the cost of purchasing and laying the pipes) will be app o i atel €8bn, ith a fu the €2bn of financing costs incurred during the project, bringing the total East-West flows to Baumgarten from Slovakia between cost to around €9.9bn ($10.55bn). 2010 and 2015 ranged from 33 to 41 bcm per year. With regard to the commercial value of the project, The current capacity of cross-border connections from Co o a stated that Gazp o Germany to the Czech Republic (Olbernhau, Brandov, on transit fees for the transportation of gas via and Hora Svate Kateriny) total 7.51 mmcm per hour Ukraine amounts to around USD 2bn per year. (189.24 mmcm per day, or 65.8 bcm per year). However, Co o a also lai s that ta iffs fo No d “t ea the cross-border capacity from the Czech Republic to significantly lower – around 50% lower – than for the Slovakia is just 25.4 bcm per year, while the capacity of Uk ai ia s u e t e pe ditu es ae oute . GAZPROM MONITOR ANNUAL REVIEW - Page 39 of 96 EGF Gazprom Monitor www.gpf-europe.com A further point to be added is that gas transportation Analysis: Nord Stream vs. Ukraine delivery distances ta iffs In addition to assessing the costs and potential ould e u de Gazp o s o t ol as the percent shareholder in Nord Stream 2), whereas transportation tariffs for gas deliveries via Ukraine u e tl depe d o egotiatio s ith Gazp o s counterparty, Naftogaz. The fact the transit fees are considered uncertain, with Naftogaz proposing increases despite the existence of a transit contract that is valid until 2019, gives Gazprom further motivation to pursue the Nord Stream 2 project. revenues of Nord Stream 2, it is worth comparing the distance of the Nord Stream and Ukrainian delivery routes. Remember that Gazprom and OMV have already confirmed that at least part of the Nord Stream 2 capacity will be used to supply gas to Austria, with the Baumgarten hub as the delivery point, while the proposed EUGAL pipeline is clearly designed to bring Nord Stream 2 gas to Baumgarten, In the February 2016 edition of the Gazprom Monitor, as a replacement for flows delivered vi Ukraine. we reported that Gazprom paid approximately USD The 2.70 per 1,000 cubic metres per 100km in transit fees, ajo it of Gazp o s gas p odu tio takes pla e around the town of Novy Urengoy, in the Northern for the delivery of 67 bcm of natural gas across District of the T u e 1,100km of Ukrainian territory in 2015. This equated acronym for this region is SRTO – Severnyi Raion to a cost of approximately USD 30 per 1,000 cubic metres, or a total of USD 2bn. t a spo tatio ta iffs ei g i ‘ussia , the Tyumenskoi Oblasti). In broader geographical terms, this is North-Western Siberia. If Corcoran is accurate in his assessment of the cost of No d “t ea ‘egio pe e t lo e than transit tariffs via Ukraine, this will equate So, let us compare the distances covered when delivering gas from North-Western Siberia to Baumgarten. to a tariff of approximately $1.35 per 1,000 cubic metres per 100km. The pipeline connection from the gas fields of the SRTO to the Russian-Ukrainian border covers a Given that the Nord Stream pipeline is 1,200km in length, revenues would be $16.2m per bcm delivered via Nord Stream 2. If operated at its full 55 bcm capacity, this would deliver revenues of $891m per year, meaning that the project would pay off in approximately 12 years. Obviously, this pay-back period is extended by factoring in operating and maintenance costs (which reduce profits generated by distance of approximately 3,000km. The distance covered across the territory of Ukraine is approximately 1,100km. Finally, the distance from the Ukraine-Slovakia border to the Baumgarten gas hub on the Austria-Slovakia border is approximately 400km. This gives a total distance from Novy Urengoy to Baumgarten of 4,500km, when the gas is delivered via Ukraine. transportation fees) and by factoring in usage of Nord Stream 2 below full capacity. Now consider the alternative Nord Stream route. The pipeline connection from Novy Urengoy to Ukhta is GAZPROM MONITOR ANNUAL REVIEW - Page 40 of 96 EGF Gazprom Monitor www.gpf-europe.com 900km. Ukhta-Gryazovets is a further 1,100km. infrastructure is preferable to dependence upon the Gryazovets-Vyborg is 900km. So, the total from Novy Naftogaz subsidiary, UkrTransGaz. The reduction of Urengoy to Vyborg (the start of Nord Stream 1) is gas transit via Ukraine also reduces the role of gas approximately 2,900km. Nord Stream itself is transit in negotiations between Gazprom and 1,200km. Finally, the distance from Greifswald (where Naftogaz over the supply of Russian gas to Ukraine. Nord Stream makes landfall in Germany) down to I fi a ial te Baumgarten is around 750km. Therefore, the total distance from Novy Urengoy to Baumgarten 4,850km, when delivered via Nord Stream. Gi e that Gazp o s, Gazp o is a le to effe ti el ap transportation fees for Nord Stream at levels that balance the need to pay off the capital investment costs of the pipeline, with the need to ensure that gas s gas production is gradually supplies are price competitive when they reach the shifting north-westwards, from Novy Urengoy to the European market. By demanding higher transit fees, Yamal Peninsula, it is worth noting the effect this has Naftogaz has handed Gazprom a strong incentive to on pipeline delivery distances. switch The distance from Bovanenkovo to Gryazovets is approximately 2,200km. Here the routes diverge. When the gas is delivered via Ukraine, the onward from the utilisation of Ukrainian gas transmission infrastructure to the utilisation of infrastructure over which Gazprom has at least partial financial control. route via Pochinki, Ukraine, and Slovakia adds a further 2,900km, giving a total of 5,100km. When the Conclusions gas is delivered via Nord Stream, the onward route via Vyborg, Nord Stream, and Greifswald to Baumgarten The Nord Stream 2 pipeline has generated much controversy in Europe, and significant obstacles adds a further 2,850km, giving a total of 5,050km. remain to its implementation. However, in the context It is lea that, as lo g as the ajo it of Gazp o s gas production takes place around Novy Urengoy, transit via Ukraine represents the shorter route to Baumgarten. But, as production moves up to the Yamal Peninsula, the Nord Stream route of the long-te shift i the geog aph of Gazp o s gas production and its fractious relationship with Naftogaz, it is a project with potential significant benefits for Gazprom. is approximately equal in length to the Ukrainian route. It is interesting to observe how the project, once justified by predictions for growth in gas demand in From an operational perspective, the Nord Stream route gives Gazprom control over the offshore delivery sections, and shareholdings in the German onshore sections in partnership with companies that Gazprom has long regarded as close allies (Wintershall North-West Europe, has now become a means for supplying the Baumgarten gas hub in Austria via the EUGAL pipeline. If NS2 is used to deliver gas to Baumgarten, it could therefore be used for onwards deliveries to Italy, reducing Ukrainian transit. and E.ON), such control over gas transportation GAZPROM MONITOR ANNUAL REVIEW - Page 41 of 96 EGF Gazprom Monitor www.gpf-europe.com southwards to Pochinki for export via the Blue Stream Turkish Stream and South Stream/Turkish Stream pipelines. The pipeline Introduction i f ast u tu e that i gs gas south a ds to ‘ussia s On the 1st of December 2014, the Russian President, Black Sea coast is referred to as Russia s “outhe Vladimir Putin, announced in a press conference that the Co ido (see fig.18). South Stream project had been cancelled, and would be replaced with a new project: Turkish Stream. The Southern Corridor is planned to consist of two routes: Western and Eastern. The Western route is The 2015 edition of the Gazprom Monitor Annual Review reminded readers of the original South Stream project and examine how far that project actually progressed prior to its cancellation, before examining developments relating to the Turkish Stream project up to July 2015. A more detailed discussion of South Stream prior to 2014 may also be found in the 2014 edition of the Gazprom Monitor Annual Review. shorter, and is designed to divert existing gas flows away from Ukraine, by connecting the Pisarevka compressor station on the Russia-Ukraine border with the Black Sea coast. The Eastern route is longer, and is planned to connect Pochinki with the Black Sea coast. Therefore, while the Western Route utilises longstanding infrastructure for bringing gas from Urengoy to the Ukrainian border, the Eastern Route is part of a massive development of new infrastructure designed to bring gas The Turkish Stream project south from Yamal, via Gryazovets and Pochinki. According to Gazprom, Turkish Stream is a successor to To avoid the regulatory difficulties it faced with South South Stream. Gazprom proposed using the same Stream, Gazprom proposed that Turkish Stream will pipeline infrastructure that it was preparing for South make landfall in Western Turkey and proceed only as far Stream, and also proposed using most of the planned as the Turkish-Greek border. In this way, Gazprom will offsho e oute. Gazp o s pla s suggest that Tu kish avoid building pipelines on EU territory. Finally, Gazprom Stream will follow the first 660km of the planned South initially announced that Turkish Stream will have the Stream offshore route across the Black Sea, before same capacity as South Stream – four lines of 15.75 bcm breaking away towards Turkey with a final 250km each, giving a total capacity of 63 bcm. section, instead of continuing onwards to Bulgaria. The first line will serve the Turkish market (replacing gas The o e currently delivered to Turkey via Ukraine, Romania, and hel i g ajo it of Gazp o s gas p odu tio takes place in North-West Siberia (around the Urengoy Bulgaria). The remaining three lines are proposed to supergiant gas field) and on the Yamal Peninsula (at the serve the markets of South-Eastern and Central Europe. Bovanenkovo gas field). Gas is brought from these fields to Gryazovets in central Russia via several pipelines. Developments during H1 2015 From Gryazovets, gas is either delivered westwards to Belarus for export via the Yamal-Europe pipeline, northwestwards to Vyborg for export via Nord Stream, or In February 2015, the Gazprom CEO, Alexei Miller, and the Turkish Energy Minister, Taner Yildiz, confirmed that Turkish Stream would make landfall at Kiyikoy, and GAZPROM MONITOR ANNUAL REVIEW - Page 42 of 96 EGF Gazprom Monitor www.gpf-europe.com terminate at Ipsala, on the Turkish-Greek border. In March, Gazprom paid $970m to buy out its partners in South Stream Transport – The consortium responsible for the offshore section of South Stream. South Stream Transport thus became the vehicle for the offshore section of Turkish Stream. Geopolitics intervenes (November 2015) Tensions emerged in the Russia-Turkey relationship following the launch of Russian air strikes against antiAssad e els oth ode ate a d I“I“ , ith ‘ussia support for President Assad conflicting with Turkish demands that Assad step down. In May, the CEO of South Stream Transport B.V, Oleg Aksyutin, announced: These latent tensions then exploded on the 24th of November, when Turkish F-16 fighter jets shot down a We signed a contract with Saipem, an Italian Russian Su-24 fighter jet close to the Turkish-Syrian company. Two ships will be involved in the border. While Russian sources claimed that the Russian operation, depending on the conditions of the fighter plane had remained in Syrian airspace, Turkish pipe-laying. Work will begin in the shallow waters sources claimed that the Russian jet had strayed into in the first half of June. Turkish airspace. The Turkish government did not grant permission to As part of the diplomatic fall-out, which included a carry out surveys and engineering works in Turkish Russian embargo on the import of certain Turkish 22nd of June. Even this permission was agricultural products and the prohibition of Russian tour only for the first line of Turkish Stream, which is planned operators from selling package holidays to Turkey, all to serve the Turkish market. talks on Turkish Stream were suspended and the Turkish July 2015 was not a good month for the Turkish Stream go e waters until the project. Gazprom made headlines by cancelling its e t ega to dis uss edu i g Tu ke s dependence on Russian gas imports. contract with Saipem. Furthermore, Russian sources epo ted that o k o the Easte ‘oute of ‘ussia s Southern Corridor had slowed dramatically, as Gazprom Pipe-layer Saipem launches arbitration case against Gazprom (January 2016) froze construction work, suspended purchases of steel pipes, and cancelled tenders for the construction of compressor stations. Saipem was contracted to lay pipelines under the Black Sea from Russia to Bulgaria in 2014 as part of the South Stream project. When the South Stream project was The cancellation of the Eastern Route leaves Gazprom with just 31.5 bcm of capacity for delivering gas to Anapa. This, in turn, reduces the possible capacity of Turkish Stream to just two lines of 15.75 bcm, one for the Turkish market and one for the European market. Indeed, on the 6th of October 2015, Miller announced that two lines totalling 32 bcm was the most realistic cancelled and replaced with the Turkish Steam project on the 1st of December 2014, Saipem was retained as a contractor and was intended as the pipe-layer for the Turkish Stream offshore section, from Russia to Turkey under the Black Sea. However, as noted above, the project was effectively suspended following the freeze in diplomatic relations between Russia and Turkey. option for the implementation of the project. GAZPROM MONITOR ANNUAL REVIEW - Page 43 of 96 EGF Gazprom Monitor www.gpf-europe.com Saipem disclosed its claim submission in late January egi i g of “outh “t ea s offsho e se tio a oss the 2016. Quoting a person familiar with the case, the Black Sea. The Slavyanskaya compressor station marks Financial Times reported: the start of the Nord Stream 2 pipeline, in north-western The amount being requested by Saipem was Russia. calculated as the sum of services performed for The gas dehydration system was purchased from the which it had not been paid, a termination fee for Italian firm Siirtec Nigi for €447m, with a maximum the contract, and other termination costs. capacity of 63 bcm. The decision to partially dismantle The claim was formally lodged against South Stream the Cossa k o p esso statio Transport, the consortium responsible for the offshore – a d, the efo e, the apa it of Gazp o sections of South Stream/Turkish Stream. The next pipeline across the Black Sea – will be reduced to 32 bcm hearing of the case is due to take place in Paris on the 3rd ea t that its apa it s i te ded per year. of March 2017. The Russia-Turkey rapprochement (June 2016) Gazprom writes off investment in South Stream and In June, the Turkish President, Recep Tayyip Erdogan, begins re-deploying equipment (April-May 2016) apologised to the Russian President, Vladimir Putin, for In its April 2016 financial statement, Gazprom announced that it had written off 56bn Roubles (751m Euros) of investment in the South Stream project, which cannot be recovered or transferred to new projects. This reportedly included the cost of surveying work in Bulgaria and the Black Sea, and (presumably) the cost of work already undertaken in Russia in preparation for the the downing of the Russian fighter jet in November , a d offe ed his o dole es to the pilots fa ilies. This opened the way for a Russia-Turkey rapprochement, and the revival of the Turkish Stream project. Erdogan visited St Petersburg on the 9th of August – During that visit, both he and President Putin confirmed their support for the project. construction of South Stream – namely the Eastern On the 7th of September, Gazprom announced that it Route of the Southern Corridor. had received the first permits relating to the Turkish The following month, Russian sources reported that Gazprom had begun the process of re-deploying infrastructure that was originally intended for South Stream project. A week later, on the 14th of September, Gazprom reported receiving the first construction permit for the offshore section of Turkish Stream. Finally, on the 29th of September, Gazprom announced that it had Stream to the Nord Stream 2 project. e ei ed a su e pe Citing industry sources, Interfax reported that the e uip e t fo deh d ati g gas at Kaza h a Cossa k “t ea it fo t o st i gs of the Tu kish gas pipeli e s offsho e se tio i Tu ke s te ito ial ate s . compressor station will be relocated to the Slavyanskaya o p esso statio . The Cossa k lo ated o o p esso statio is ‘ussia s Bla k “ea oast, a d a ked the GAZPROM MONITOR ANNUAL REVIEW - Page 44 of 96 EGF Gazprom Monitor www.gpf-europe.com The Intergovernmental Agreement and offshore pipe- The proposed project seeks to revive the Italy-Greece laying contract (October-December 2016) I te o On the 10th of October, the Russian and Turkish connect Greece with Southern Italy, as part of a project governments signed an Intergovernmental Agreement (IGA) on the Turkish Stream pipeline. According to e to , Poseido , hi h as pla ed to to bring gas from the Caspian and Middle Eastern regions to South-Eastern Europe via Turkey (see fig.20). reports, the IGA stipulates the construction of two The project company, IGI Poseidon, is a 50-50 joint parallel pipelines, each with an annual delivery capacity venture between Edison and DEPA. Edison is an Italian of 15.75 bcm, giving a total capacity of 31.5 bcm. energy According procurement, and sales of hydrocarbons. In 2012, EDF to the Gazprom CEO, Alexei Miller, construction is scheduled to begin in 2018. The IGA was ratified by the Turkish parliament and signed off by President Erdogan several days later, on the 6th of December. company engaged in the production, acquired a 99.5 percent stake in Edison. DEPA is a Greek company engaged in the procurement, marketing, and sales of natural gas to Greek customers. DEPA is 65 percent own by the Greek state, and 35 percent by the oil refining company, Hellenic Petroleum. The Greek Just 48 hours after the signing of the IGA by President Erdogan, Gazprom announced that it had signed a state also holds a 35 percent stake in Hellenic Petroleum, in partnership with private investors. contract with the Swiss company, Allseas, for the laying of the first line of Turkish Stream in the Black Sea. According to Gazprom, the contract also included the option of laying the second line, with construction of the first line scheduled to begin in H2 2017. The feasibility study for the Poseidon project (supported by a grant from the EU) was conducted in 2003. The Italy-Greece intergovernmental agreement was signed in 2005. A 25-year exemption from third party access provisions was granted by the European Commission in The choice of Allseas as the pipe-laying contractor for the offshore sections of Nord Stream 2 and Turkish Stream suggests that Gazprom and Saipem have not salvaged their previously close relationship. 2007, and the Edison-DEPA joint venture for the construction of the pipeline was incorporated the following year. By the end of 2013, all necessary permits and permissions had been received from the Greek and Italian governments. Poseidon pipeline: Gazprom revives talks with Edison and DEPA (December 2016) According to IGI Poseidon, construction was due to take place between the end of 2010 and the end of 2014, As an extension of the Turkish Stream project, Gazprom ready for launch in 2015. That did not happen. is continuing to investigate the possibilities for delivering gas from Turkey to the European market. On the 24th of February 2016, Gazprom, Edison (Italy), and DEPA (Greece) signed a Memorandum of Understanding on natural gas deliveries from Russia across the Black Sea to Greece and Italy. Instead, the Poseidon project was effectively cancelled when the Shah Deniz consortium chose the TransAdriatic Pipeline (TAP) as their preferred continuation of the Trans-Anatolian Pipeline (TANAP) for the delivery of gas f o Aze aija s “hah De iz gas field lo ated i the GAZPROM MONITOR ANNUAL REVIEW - Page 45 of 96 EGF Gazprom Monitor www.gpf-europe.com Caspian Sea) to Europe. That decision was announced on The fact that Edison and DEPA intend to build, own and the 28th of June 2013. operate the Poseidon pipeline, while also importing gas from Gazprom that would be used to fill that pipeline According to IGI Poseidon: demonstrates both the convergence of interests The project is currently designed to transport up to 12 Bcm/y (billion cubic metres of natural gas per year) from potential sources expected to be between the three companies and the importance of EU gas market regulations on third party access, that will prevent the monopolisation of the pipeline. available at Greek borders. Discussions on the Poseidon project were suspended in The website also notes that the proposed route is from Thesprotia in western Greece across the Adriatic Sea to Ot a to, lose to Le e i the heel of Ital . line with the suspension of the Turkish Stream project. However, the relaunch of the Turkish Stream project, and particularly the signing and ratification of the IGA, With the Turkish Stream project revived, it appears that led directly to the renewal of discussions over the the IGI Poseidon may have found a source of gas Poseidon project. In December 2016, the Gazprom CEO, supplies to feed the proposed pipeline. For Gazprom, Alexei Miller, held a meeting with the Executive Vice Poseidon represents a possible outlet for its gas President of EDF and CEO of Edison, Marc Benayoun, deliveries to Europe via Turkey. The fact that Gazprom and the CEO of DEPA, Theodoros Kitsakos, to discuss the will not be a shareholder means that the project will Poseidon project, although no concrete developments remain within the EU gas market regulations on pipeline were announced. ownership and third party access that effectively blocked the South Stream project. Analysis and prognosis In 2015, Edison imported 12.7 bcm of natural gas (by pipeline and LNG), accounting for 21 percent of Italian gas imports. Edison imports gas from Qatari RasGas, Algerian Sonatrach, and the Gazprom-Eni joint venture, Promgas, but the annual volumes provided by each Gazp o project can be discerned as follows. Firstly, both South Stream and Turkish Stream were primarily designed to reduce gas transit via Ukraine. Gazprom invested substantial sums supplier are not known. s ai s i pu sui g the Tu kish “t ea in developing new gas transportation infrastructure in Russia, for the delivery of gas from According to DEPA, Gazprom accounts for 67 percent of its annual contractual gas imports, along with the Tu kish Botaş Alge ia pe e t a d LNG imports from the “o at a h pe e t . Gazp o s o ta t production centres to the Black Sea coast. The Turkish Stream project gives Gazprom the opportunity to utilise the infrastructure that was developed for South Stream, namely the Western Route of the Southern Corridor. with DEPA expires in 2026. In June 2016, the Mytilineos Group and Motor Oil Group subsidiary, M&M Gas, began importing small volumes of gas by pipeline from Bulgaria, thus breaking DEPA s pipeli e gas i po t monopoly. Even if only the first line of Turkish Stream is built, this will be sufficient to end the delivery of natural gas to Greece and Turkey via Ukraine, thus reducing the annual transit of Russian gas via Ukraine by 15-25 percent. GAZPROM MONITOR ANNUAL REVIEW - Page 46 of 96 EGF Gazprom Monitor www.gpf-europe.com The lack of infrastructure for delivering gas from Greece to Central Europe via FYR Macedonia, Serbia, and Gazprom and Ukraine Introduction Hungary, means that Turkish Stream could not be used to replace gas deliveries to Central Europe currently made via Ukraine. The structure of the Poseidon project offers a potential outlet for Russian gas delivered to the Turkey-Greece border via the proposed second line of For the much of the past decade, the Russian stateowned gas exporter, Gazprom, has been locked in dispute with the Ukrainian state-owned gas importer, Naftogaz. Turkish Stream. We should therefore expect that the Traditionally, Gazprom delivered gas to Naftogaz on a development of the second line of Turkish Stream may monthly basis. At the beginning of the following month, take place only in parallel with the development of the Gazprom would present Naftogaz with a bill to be settled Poseidon project. Either both will be implemented, or by the 7th day of that month. For example, if Gazprom neither. provided gas throughout October, it would present The abandonment of the original plan to deliver the full 63 bcm per year to Turkey for onward delivery to Central Europe, as a complete replacement for the South Stream Naftogaz with a bill for October supplies at the beginning of November, and Naftogaz would settle that bill by the 7th of November. project, is a positive move for two reasons. Firstly, the The 2014 edition of the Gazprom Monitor Annual Review lack of supporting infrastructure in South-East Europe covered events up to June 2014 - the point where made the project unrealistic. Gazp o , ha i g ti ed of Naftogaz s a u ulati g de ts, Secondly, the combination of political instability in Turkey, dramatic fluctuations in diplomatic relations between Russia and Turkey, and the difficulties experienced by both sides in negotiating gas prices for Gazp o s supplies to state-o ed Botaş a d p i ate Turkish energy companies, suggests that Gazprom is fortunate not to depend on gas transit via Turkey to a significant extent. While the proposed transit of 12 bcm s it hed to a p e-pa e t s he e. Naftogaz ould now only receive supplies for which it had paid in advance, with the result being Naftogaz suspending its imports of gas from Russia. The 2014 Annual Review also covered the history of the Gazprom-Naftogaz disputes, including the shut-offs in January 2006 and January 2009. The 2015 edition of the Gazprom Monitor Annual Review covered events from June 2014 to July 2015. per year via Turkey and Greece for supplying the Poseidon pipeline to Italy would represent a positive diversificatio of Gazp o s e po t outes, Gazp o would do well to avoid a heavier dependence on Turkey for its exports to the European market. The story so far: Arbitration cases launched (2014) The Gazprom-Naftogaz dispute of January 2009 was resolved through the signature of new, ten-year gas supply and gas transit contracts. Over the five years that followed, Naftogaz challenged the pricing formula stipulated by the contract, and the delivery volumes hi h fa e eeded Uk ai e s gas i po t de a d du i g GAZPROM MONITOR ANNUAL REVIEW - Page 47 of 96 EGF Gazprom Monitor www.gpf-europe.com this period). In July 2014, both Gazprom and Naftogaz At the beginning of April 2015, both Gazprom and launched arbitration proceedings at the Arbitration Naftogaz announced that they had reached agreement Institute of the Stockholm Chamber of Commerce. o e te di g the Gazprom sought to recover $4.45bn of outstanding debt months, to cover Q2 2015. i te pa kage a fu the th ee for gas that has already been delivered, and sought o pe satio fo Naftogaz s failu e to adhe e to the take-or-pa te s of its gas suppl o t a t since 2012. For its part, Naftogaz claimed that it had overpaid for gas since 2010, and is sought a rebate of $6bn. Naftogaz also planned to use arbitration to negotiate a lower gas price, so that it ould ot o ti ue o e pa i g fo the Naftogaz suspends imports of Russian gas (July 2015) The existing winter package expired on the 30th of June 2015, and was not renewed, following the failure of trilateral Russia-Ukraine-EU gas talks in Vienna. Just 48 hours later, Naftogaz announced that it had suspended imports of Russian gas. remainder of its contract. It is unlikely that Naftogaz will settle its debts with Gazprom until a ruling has been made on its own arbitration case. On the 29th of July 2014, the Naftogaz CEO, Andriy Kobolev, announced that the two cases had Bilateral meetings continued throughout H2 2015, with EU Co issio e fo E e g U io , Ma oš Šefčo ič, meeting the Russian Energy Minister, Alexander Novak, Gazprom CEO, Alexei Miller, the Ukrainian Energy Minister, Volodymyr Demchyshyn, and the Naftogaz been combined into a single case. CEO, Andriy Kobolev. On the 25th of “epte e , Šefčo ič, Novak, and Demchyshyn initialled (but did not sign) a The story so far: Wi ter Pa kages (2014-15) Throughout October 2014, representatives from the trilateral gas protocol that was essentially a repeat of the winter package. European Commission mediated negotiations between Gazprom and Naftogaz, in a bid to re-start deliveries of Russian gas to Ukraine before the winter. On the 30th of Naftogaz renews short-term imports of Russian gas (October-November 2015) October, those talks finally yielded tangible results. Gazprom agreed to restart gas deliveries to Ukraine, while Naftogaz agreed to repay $3.1bn of its debts in two tranches: $1.45bn was epaid i ediatel a d the remaining $1.65bn was paid by the end of 2014. On the 9th of October, it was announced that Gazprom and Naftogaz had agreed upon the short-term resumption of gas supplies for the month of October. Crucially, the agreement stipulated pre-payment, meaning that Naftogaz would only receive volumes for The two sides also agreed on temporary discounts for which it had paid in advance. gas supplied between November 2014 and March 2015, the fact that Naftogaz should pre-pay for its gas imports, and that the winter package should be renewed every quarter. According to a press release issued by Naftogaz on the 8th of February 2016, the company purchased 2.00 bcm from Gazprom in October 2015, and an additional 0.39 bcm in November. GAZPROM MONITOR ANNUAL REVIEW - Page 48 of 96 EGF Gazprom Monitor www.gpf-europe.com Finally, on the 23rd of November, Demchyshyn, told a from Russia and Eastern Ukraine were restarted, press conference that Ukraine would not import following the resumption of electricity supplies to additional pre-paid supplies from Russia before the end Crimea. of Q4 2015. Naftogaz passes a year without imports from Gazprom Energy crisis in Crimea raises concerns (NovemberDecember 2015) (2015-16) The winter of 2015-16 was a landmark one for Naftogaz In two attacks, on the 20th and 22nd of November, power – The first that it passed without importing gas from lines delivering electricity from Ukraine to the Crimean Russian during the coldest months (December, January, Peninsula were blown up, dramatically reducing the February, and March). supply of electricity to Crimea. Without those supplies, On the 7th of June, Naftogaz announced that it was the peninsula can only provide approximately half of its own electricity needs, using emergency diesel prepared to purchased gas from Gazprom if the conditions were favourable, including the calculation of generators and renewable energy sources. a When asked by journalists how Russia may response to at European hubs minus the cost of transportation. This the incident, the Russian Energy Minister, Aleksandr is a possible reference to the Baumgarten hub in Austria, Novak, replied: minus the cost of transporting gas across Slovakia to e o o i all justified p i e ased o the ost of gas Baumgarten on the Austria-Slovakia border. There are different options, political ones, o es… ‘ussia delivers coal to the Ho e e , a ag ee e t as ot ea hed a d Naftogaz s Ukrainian energy sector. We could, and maybe in imports of gas from Gazprom remained suspended. As of this situation we need to, take a decision about the 31st of December, they had not been revived. e o o i halting deliveries of coal by our commercial According to statistics released by Naftogaz in July 2016, organisations which deliver coal to Ukrainian the company imported 3.03 bcm of natural gas in Q4 power stations. 2015, of which 2.39 bcm was imported from Russia in Novak kept his word, and Russian coal exports to October-November. In Q1 2016, Naftogaz imported 2.01 Ukraine were suspended on the 27th of November. bcm, which was sourced entirely from Europe. Then, in Furthermore, coal mines in rebel-held areas of Eastern Q2 2016, Naftogaz imported no gas at all, from Russia or Ukraine Europe. Naftogaz resumed imports from Europe in July, also suspended deliveries of coal to government-held territories, although the regional conflict had already reduced those delivery volumes. but did not resume purchases from Gazprom. Between August and October, Naftogaz purchased 1.8 On the 7th of December, a shipment of South African coal bcm of natural gas from Axpo Trading, CEZ, Engie, Eni arrived in Ukraine, with another delivery scheduled for Trading & Shipping, RWE Supply & Trading, and Uniper later in December. Then, 24 hours later, coal shipments GAZPROM MONITOR ANNUAL REVIEW - Page 49 of 96 EGF Gazprom Monitor www.gpf-europe.com Global Commodities SE, but did not resume gas The base price of gasoil used was $935.74 per metric purchases from Gazprom. tonne, while the base price of fuel oil used was $520.93 In January 2017, Naftogaz released data showing that Ukrainian gas demand in 2016 had remained at a similar level to 2015 (33-34 bcm), and that no gas had been per metric tonne. Both of these base prices are based on the average price of these commodities from April to December 2008. imported from Russia during that whole calendar year. The price of crude oil on world markets influences the Rather, Naftogaz and other private companies had prices of gasoil and fuel oil, which in turn influence the imported 11.1 bcm from Europe. price at which Gazprom supplies gas to Naftogaz. The European p i e of $495 per mcm (upon which the Naftogaz-Gazprom base price of $450 per mcm was Analysis: The price at which Naftogaz imports gas from Gazprom based) was a historical high, with many European contractual gas prices being index-linked to international The price at which Naftogaz imports gas from Gazprom oil prices with a 6-to-9-month time lag. In January 2009, is set by the contract signed in January 2009. That price the time lag referred back to the spring-summer of 2008, is al ulated usi g a base p i e , which then fluctuates in when international oil prices were at historically high accordance with shifts in international oil prices. The le els. The efo e, the details of the contract were leaked to the Ukrainian supplies to Naftogaz was set at a very high level. Indeed, newspaper, Ukrainskaya Pravda1, and analysed by Simon the IMF epo t that the p i e of ‘ussia Pirani, Jonathan Stern, and Katja Yafimava from the Ge Oxford Institute for Energy Studies. The information $16.02 per mmbtu ($565.75 per mcm).2 below is based on both of these sources. a o de i Q ase p i e of Gazp o a d Ja ua s gas gas at the as It is not possible to calculate the shift in the contractual The base price was calculated at $450 per thousand gas price precisely, because this author does not have cubic metres (mcm) ($12.61 per mmbtu), which seems access to Platt s Oilg a to be based on a European netback price of $495 per well-known that the prices of gasoil and fuel oil follow mcm ($13.87 per mmbtu). This price changes every the same pattern as crude oil prices, with a delay of a quarter, on the basis of the prices of gasoil (0.1% month or so. Therefore, if the gas price in January 2009 AAVJI00) (50 percent) and heavy fuel oil with 1% sulphur was based on the price of gasoil and fuel oil between content (also known as Mazut, cargoes FOB Med. Italy – April and December 2008, it should also reflect the price PUAAK00) (50 percent) over the previous three quarters, of Brent crude oil between March and November 2008. with no time lag. Prices of these commodities are taken Fortunately for us, the price of Brent crude is easily fo accessible. 1 Platt s Oilg a Price Reports. http://www.pravda.com.ua/rus/articles/2009/01/22/4462671/ 2 P i e epo ts. Ho e e , it is Formula: 1 mmbtu equals 35.315 thousand cubic metres GAZPROM MONITOR ANNUAL REVIEW - Page 50 of 96 EGF Gazprom Monitor www.gpf-europe.com The quarterly prices in the Gazprom-Naftogaz are can see that the two sets of gas prices follow a similar calculated as follows: The price in January 2009 reflected pattern, but with the price for Ukraine remaining the price of gasoil and fuel oil between April and between 10 and 40 percent higher between October December 2008; the price of gas in April 2009 reflected 2011 and October 2016. This is illustrated in fig.23. the price of gasoil and fuel oil between July 2008 and March 2009; the price of gas in July 2009 reflected the price of gasoil and fuel oil between October 2008 and June 2009; and the price of gas in October 2009 reflected the price of gasoil and fuel oil between January 2009 and September 2009. If the price of gasoil and fuel oil lag one month behind the price of Brent crude, then we can follow the same cycle, but with a timeshift backwards of one month. Therefore, the price of gas in January 2009 reflected the price of Brent crude between March and November 2008; the price of gas in April 2009 reflected the price of Brent crude between June 2008 and February 2009; the The base price used in the Naftogaz-Gazprom contract was not as high as oil-indexed gas prices in Western Europe in January 2009. However, the relationship between the base price and crude oil prices meant that the contractual price remained above even oil-indexed European gas prices, from 2011 to early 2017. To make matters worse for Naftogaz, the period of 20102012 saw an oversupply of natural gas on the European market, with spot prices falling substantially below oilindexed prices. This left Naftogaz feeling ever more convinced that they were over-paying for their gas imports, as they eyed cheaper spot-priced gas on the European market. price of gas in July 2009 reflected the price of Brent crude between September 2008 and May 2009; and the price of gas in October 2009 reflected the price of Brent crude between December 2008 and August 2009. While European energy companies that purchased their supplies on spot markets enjoyed their competitive advantage, European companies that purchased their supplies under long-term, oil-indexed contracts sought Finally, we may substitute the price shifts in Brent crude for the price shifts in gasoil and fuel oil, to get the following formula for calculating the contractual price at which Gazprom would sell gas to Naftogaz: P = Base price x (Average price of Brent crude over the previous 9 months with a time lag of one month / Average price of Brent crude between March and November 2008). When we map this data onto a graph showing both the rolling 9-month average price of Brent crude (with a time delay of one month) and the estimated contractual price at which Naftogaz was obliged to purchase gas from Gazprom, we can see the accurate correlation. Furthermore, when we add the price of Russian gas at discounts and even commercial arbitration. In that sense, Naftogaz was no different from its western European counterparts. What was different was that, while European companies resorted to legal measures a d o e ial a it atio , Naftogaz s gas-price discounts between 2010 and 2015 were achieved through overtly political and diplomatic negotiations. The contractual price at which Naftogaz purchased gas from Gazprom was discounted by 20 percent for the first year of the contract (2009). When the discount expired, the price rose substantially, from $187 per mcm in October 2009 to $277 per mcm in January 2010. In the spring of 2010, the Ukrainian President, Viktor the German border (BAFA), as sourced from the IMF, we GAZPROM MONITOR ANNUAL REVIEW - Page 51 of 96 EGF Gazprom Monitor Yanuko i h, www.gpf-europe.com egotiated the Kha ki A o ds ith his period (Q4 2014 to Q2 2015), the price paid by Naftogaz Russian counterpart. In exchange for the Ukrainian for its Russian gas imports was similar to the price of government extending the lease on the Sevastopol naval Russian gas at the German border. base for the Russian Black Sea Fleet, the Russian government suspended the levying of customs duties on Russian gas exports to Ukraine, thus reducing the price of Gazp o s supplies to Naftogaz Between 2012 and $100 per mcm. mid-2014, sustained During Q3 2015, with the winter package not having been renewed, the non-discounted price of gas offered to Naftogaz by Gazprom was around 25 percent higher than the price of Russian gas at the German border, high hi h a e plai Naftogaz s suspe sio of gas i po ts international crude oil prices meant that the non- during this period. dis ou ted p i e of Gazp o Finally, as noted earlier, Naftogaz briefly resumed s supplies to Naftogaz remained approximately $400-500 per mcm, at a time when prices in western European remained approximately $285-450 per mcm. imports of gas from Gazprom in October and November 2015 at a price of $227 per mcm, which was only slightly higher than the price of Russian gas at the German In December 2013, as a measure of support for the border in October 2015 ($212 per mcm). beleaguered Yanukovich, the Russian government On the 1st of January, reports emerged that the Russian ordered Gazprom to grant a 33 percent discount to Naftogaz, effective from the 1st ought the p i e of Gazp o of January 2014. This s supplies to Naftogaz down from $400 per mcm to $268. Prime Minister, Dmitrii Medvedev, had approved a Russian government resolution, offering Ukraine a discount on the contractual price of its Russian gas imports, which would have brought the price down from The discount was not renewed for Q2 2014, and the $230 per mcm ($6.44 per mmbtu) to $212 ($5.94 per price rose back to $385. Following the Russian mmbtu). This discount would have been achieved by annexation of Crimea, the cancellation of the Kharkiv lowering the rate of customs duties imposed on Russian A o ds sa the p i e of Gazp o gas exports to Ukraine, rather than by altering the price s supplies to Naftogaz rise by a further $100 per mcm, to $485 per mcm. of gas i Gazp o The politically-negotiated discounts meant that, from However, the Ukrainian Prime Minister, Arseniy January 2009 to the beginning of Q2 2014, Naftogaz Yatsenyuk, rejected the offer. He suggested that Ukraine actually paid less for its Russian gas imports than the could import gas from Europe at $200 per thousand price of Russian gas at the German border. cubic metres ($5.60 per mmbtu), and would therefore The first winter package saw Gazprom provide gas to Naftogaz at a discounted price of $378 in November and December 2014, and a price of $328 in Q1 2015. Due to the significant decline in international oil prices during late , the p i e fo Gazp o s gas supplies to s o t a t ith Naftogaz. not consider buying Russian gas unless it was cheaper than $200. Indeed, according to the IMF, Russian gas at the Ge a o de a sho tha d fo ‘ussia s oil-indexed gas exports to Europe) was priced at $5.10 per mmbtu ($182 per 1,000 cubic metres) in January 2016. Naftogaz fell to $248 per mcm in Q2 2015. During this GAZPROM MONITOR ANNUAL REVIEW - Page 52 of 96 EGF Gazprom Monitor www.gpf-europe.com On the 1st of April 2016, Demchyshyn stated that Analysis: Naftogaz s pur hases from Gazprom in relation Naftogaz would only buy gas from Gazprom at a price of to the take-or-pay $160-170 per mcm, while Novak suggested that even contract ith the e d of the i te dis ou t , Gazp o ould still supply gas to Naftogaz at a price of $180 per mcm. lause i the Gazpro -Naftogaz The January 2009 Gazprom-Naftogaz gas supply contract stipulated annual delivery volumes of 52 bcm. The take- At that time, Naftogaz refused to buy gas from Gazprom or-pay clause in the contract stipulates that Naftogaz under the existing contract, without a discount, for fear must offtake at least 80 percent of the contractual of prejudicing the ongoing arbitration case, in which volume (41.6 bcm), while Gazprom is obliged to supply Naftogaz is claiming that Gazprom is overcharging for its up to 120 percent of the contractual volume (62.4 bcm) gas supplies. Under those circumstances, it is not exactly at the contractual price, if Naftogaz requests it. surprising that Naftogaz was unwilling to tacitly accept A o di g to BP, Uk ai e s gas o su ptio the legitimacy of the pricing formula in the existing contract, even if the final price was favourable. Furthermore, given the rally in oil prices in Q1 2016, any between 2000 and 2006 remained relatively stable, at 67-71 bcm per year, before falling to 63 bcm in 2007 and 60 bcm in . Uk ai e s a ual gas p odu tio ose steadil acceptance of the current pricing mechanism without a during this period, from 16 bcm to 19 bcm per year. This discount would have resulted in higher prices by late- resulted in annual imports of approximately 50 bcm per 2016. Indeed, the estimated contractual price (fig.22) year between 2000 and 2006, 44 bcm in 2007, and 41 would have 17-38 percent higher than the actual price of bcm in 2008. Russian gas at the German border through 2016. The contractual volumes agreed between Gazprom and With the final rulings on the Gazprom-Naftogaz Naftogaz e e lea l desig ed to satisf Uk ai e s total arbitration case expected in 2017, it seems that Naftogaz annual gas import needs. The medium-term trend was has now adopted the strategy of refusing imports from for a decline in Ukrainian gas imports with Ukrainian gas Gazprom and, by extension, tacitly accepting the consumption declining every year from 2005 to 2008. In contractual pricing formula – due to its unwillingness to this context, even in January 2009, it was clear that risk prejudicing the ongoing arbitration case. Naftogaz would not need the full 52 bcm per year stated One factor that may affect the arbitration ruling is the i the o t a t. I deed, Uk ai e s gas imports in 2007 fact that Naftogaz purchased gas from Gazprom as and 2008 were barely above the 80 percent minimum discounted prices from Q1 2009 to Q3 2015, with the stipulated only exceptions being Q2 and Q3 2014. Since the Naftogaz o t a t ag eed i Ja ua beginning of 2016, when the contractual price was in force, Naftogaz did not actually purchase any gas from the take-or-pa lause i the Gazp o . If Naftogaz s import needs declined even slightly, this would take them below the contractual minimum offtake volume. Gazprom. This will make it more difficult for Naftogaz to Unfortunately for Naftogaz, January 2009 was not only a a gue that it has ee a i ti pe fe t sto of o e - ha gi g . ega di g Eu opea oil a d gas p i es, but also a watershed in Ukrainian gas demand. The GAZPROM MONITOR ANNUAL REVIEW - Page 53 of 96 EGF Gazprom Monitor www.gpf-europe.com medium-term trend of declining Ukrainian gas demand A alysis: Naftogaz s a ility to i port gas fro continued and, if anything, became more dramatic. European market Uk ai e s gas p odu tio peaked at , It is also worth noting that, despite its inability to remained stable at around 18.5 bcm in 2010-2013, and purchase the contractual minimum from Gazprom, fell to 17.9 bcm in 2014 and . . i the i . Uk ai e s gas consumption fell to 46.8 bcm in 2009, recovered to 53.7 bcm in 2011, and then fell every year to 49.6 bcm (2012), 43.3 bcm (2013), 36.8 bcm (2014), and 28.8 bcm (2015). The efo e, Uk ai e s gas i po t de a d fell to approximately 27.5 bcm in 2009, recovered to 35 bcm in 2011, and fell dramatically to approximately 31 bcm in 2012, 25 bcm in 2013, 19 bcm in 2014, and just 11.4 bcm in 2015. Naftogaz pursued the import of gas from the European market. Data from the International Energy Agency shows that, from November 2012 onwards, Ukraine began importing small volumes of natural gas from the European market, via Poland. In 2013, Ukraine imported approximately 2.1 bcm from a western direction, divided equally between Poland and Hungary. In 2014, imports from Hungary fell to 0.6 bcm, imports from Poland fell slightly to 0.9 bcm, At no point during the lifetime of the contract has and imports from Slovakia reached 3.5 bcm, giving a Naftogaz off-taken the annual contractual minimum. total of 4.9 bcm. In 2015, imports from Hungary fell This has left Gazprom the ability to pursue the policy of slightly (0.5 bcm), imports from Poland virtually ceased switching between the imposition of financial penalties (0.1 bcm), and imports from Slovakia rose substantially for failing to meet the terms of the take-or-pay clause, (9.5 bcm), giving a total of 10.1 bcm. Finally, in Q1-Q3 and offering to suspend the imposition of such penalties, 2016, imports from Hungary and Poland each reached depending on the situation at a given time. 0.5-0.6 bcm, while imports from Slovakia reached 5.1 Just as the p i i g fo Gazp o ula set the ase p i e of s supplies to Naftogaz at a high le el, bcm, giving a total of 6.2 bcm. ith the Taken together, these figures show that in 2014, Ukraine expectation that any price fluctuation would be only in imported approximately 19 bcm, of which 5 bcm was an upwards direction, the agreed contractual volumes sourced from Europe. In 2015, imports from Europe meant that Naftogaz was always likely to off-take only (10.1 bcm) accounted for al ost the contractual minimum, leaving no room for total gas imports (11.4 bcm). Finally, in 2016, Ukraine competing supplies. In the event, it turned out that the imported no gas from Russia at all. economic recession in Ukraine in 2009-10 was more severe than could have been expected in January 2009, a d Uk ai e s gas i po t de a d fell fa contractual minimum. elo the pe e t of Uk ai e s These figures are confirmed by Naftogaz itself, which reports a decline in its gas imports from Russia from 14.5 bcm in 2014 to 6.1 bcm in 2015, and nothing in 2016. Naftogaz also reported imports into Ukraine by private companies increasing from 0.14bcm in 2014 to 1.1 bcm in 2015. In November 2016, Naftogaz announced that p i ate o pa ies a ou ted fo pe e t of Uk ai e s GAZPROM MONITOR ANNUAL REVIEW - Page 54 of 96 EGF Gazprom Monitor www.gpf-europe.com gas imports in January-October 2016. Figures for the failed to meet its contractual commitments, the fact that calendar year 2016 are expected to become available in Naftogaz also imported gas from Europe shows that it early February 2017. never intended to adhere to its contractual obligations. So, what does all this data tell us? Firstly, that Ukraine no longer depends on Russian gas imports. As long as Analysis: Fees for the transit of Russian gas via Ukraine Ukrainian gas demand remains subdued, imports from a western direction will be sufficient. This may change if Uk ai e s gas i po t de a d i eases i the futu e, and no new infrastructure is developed. Indeed, the West-East connection with Slovakia has a capacity of 10 bcm per year, and was used at virtually full capacity in 2015. However, greater use of import routes from Poland and Hu ga , a d g eate utilisatio of Uk ai e s gas sto age facilities could reduce the need for Russian gas imports in the case of a limited rise in Ukrainian gas import The transit contract signed in January 2009 provides for a gas transit fee of $1.70 per mcm per 100km, rising to $2.04 per mcm per 100km in 2010, plus an element based on 2009 gas prices. From 2011, the transit fee was 50 percent of $2.04 per mcm per 100km, plus 50 percent of the p e ious ea s ta iff i de ed to EU i flatio ates. In 2015, Gazprom paid approximately $2.70 per mcm per 100km of gas transit via Ukraine. With an average transit distance across Ukraine of 1,100km, Gazprom paid the ope ato of Uk ai e s gas t a s issio s ste , UkrTransGaz (a Naftogaz subsidiary), approximately demand. $29.85 per mcm of the 63 bcm that it delivered via Secondly, with regard to the arbitration case, while the Ukraine in 2015, or a total of approximately $1.88bn. January 2009 contract stipulated import volumes that did ot efle t Uk ai e s gas i po t eeds, Naftogaz has imported gas from Europe for the past four years. Naftogaz will argue that the dramatic decline in Ukrainian gas import demand negated the take-or-pay provisions of the January 2009 contract, and that imports from Europe were necessary to reduce the need to pu hase ‘ussia gas at the o - a ket high p i es stipulated by the existing contract. In other words, the questions of price and import volumes are absolutely interlinked. For its part, Gazprom will argue that the contract is a legally-binding document, willingly signed by Naftogaz and confirmed by a Russia-Ukraine Intergovernmental Agreement, and that while the decline in Ukrainian gas import demand may partially explain why Naftogaz From the 1st of January 2016, UkrTransGaz attempted to raise the transit fee, with reports suggesting a figure of $4.50 per mcm per 100km. However, doing so would require revising the existing contract, which Gazprom does not wish to do. The transit contract states that, if one side requests a contractual revision and such a revision is not agreed within three months, then the requesting side may file for arbitration. By the end of 2016, UkrTransGaz had not filed for arbitration. One point that should be noted, is that by attempting to raise its transit fees, UkrTransGaz (and, therefore, Naftogaz), are inadvertently strengthening the commercial case for Nord Stream and Nord Stream 2. Indeed, even if UkrTransGaz does not manage to increase the transit fees before the existing transit contract expires, the possibility that it will press for GAZPROM MONITOR ANNUAL REVIEW - Page 55 of 96 EGF Gazprom Monitor www.gpf-europe.com higher fees in a new, post-2019 contract will further This reduction in the transit of Russian gas via Ukraine, in motivate Gazprom to implement Nord Stream 2 and spite take o t ol o e the deli e UkrTransGaz is the source of another aspect in the wide- of gas to the EU. A potential double-edged sword for Gazprom is that fact of Gazp o s o t a tual o ligatio s to ranging Gazprom-Naftogaz dispute. that its ship-or-pay contracts with pipeline operators in In January 2016, the Anti-Monopoly Committee of Bulgaria and Slovakia do not expire until 2028 and 2030 Ukraine (AMCU) imposed a fine of 86 billion Hryvnia respectively. Gazprom paid around $100m in transit fees ($3.4bn) on Gazprom, with the claim that Gazprom had to Bulgaria in 2014, while in the same year the Slovak abused its monopoly position in relation to gas transit Eustream had revenues of $695m, of which most were via Ukraine and, in doing so, had breached the terms of derived from providing gas transportation services to its ship-or-pa Gazprom. If gas transit via Ukraine is eliminated by Nord of the Ukrainian gas pipeline system. The claim is likely Stream 2 and Turkish Stream, Gazprom will be obliged to based on the fact that Gazprom is shipping less gas via pay for transit services that it does not need in Slovakia Ukraine than it promised in its contract with and Bulgaria. Conversely, these capacity bookings may UkrTransGaz, and has instead re-routed gas deliveries via be regarded as i su a e fo Gazp o , i No d “t ea . Gazp o ase t a sit via Ukraine does indeed continue after 2019. o t a t ith Uk T a sGaz, the ope ato s fi st appeal as dis issed the Economic Court in Kyiv on the 18th of May. The Supreme Economic Court of Ukraine ruled against Gazprom on the 13th of Jul , a d Gazp o Analysis: The Anti-Monopoly Committee of Ukraine case against Gazprom for alleged abuse of transit monopoly The gas transit contract signed in January 2009 also stipulated that Gazprom would ship at least 110 bcm per year via Ukraine, although the contract allows for renegotiation if market conditions change. In 2009, 2010, and 2011, Russian gas transit via Ukraine was 96- the Supreme Economic Court was dismissed on the 13th of September. At the beginning of October, it was reported that the Kyiv Commercial Court would hear a claim by AMCU demanding the enforced recovery of the fine. The AMCU is also seeking additional penalties amounting to an additional 86 billion Hryvnia ($3.4bn) for the non- 99 bcm per year. payment of that fine, following Gazp o However, following the launch of Nord Stream in 2011, appeal in September. Russian gas transit via Ukraine fell to 79-82 bcm in 2012 and 2013. East-West gas transit via Ukraine then fell even further to 58 bcm in 2014, before recovering to 63 bcm in 2015. Gas transit via Ukraine in Q1-Q3 2016 was 54 bcm, up from 45 bcm in Q1-Q3 2015., suggesting the s appeal at s u su essful Finally, on the 5th of December, the Economic Court in Kyiv ruled in favour of the Anti-Monopoly Committee of Ukraine (AMCU) in its bid to enforce the recovery of a fine it had first imposed on Gazprom almost one year earlier. gas transit via Ukraine in 2016 would be higher than in 2015. GAZPROM MONITOR ANNUAL REVIEW - Page 56 of 96 EGF Gazprom Monitor www.gpf-europe.com Less than two weeks later, the Gazprom CEO, Alexei ENTSOG data suggest that there is a connection Mille , between the increase in OPAL use and the decline a ed Naftogaz agai st the offtake of gas i t a sit du i g the u autho ised i te of -17. in transit through Ukraine and Slovakia. This Specifically, Miller referred to the fact that ruling was challenges the statement that the decision of the made in favour of the forced recovery of the anti- Eu opea Co monopoly fine: to OPAL and its exemption from the standard We do not have any assets in Ukraine except for [the gas] in the pipe. If they put it this way, that actually means that they may take our gas, which issio o Gazp o s ide a ess European legislation will not lead to a decrease in Russian gas transit through Ukraine. The current situation suggests that Gazprom is making deliberate actions to decrease transit through is intended for European consumers. Uk ai e s gas t a s issio s ste . Miller added that Gazprom had already informed the European Commission and the relevant Ministers of European countries that import Russian gas about Gazp o s o e s o e the se u it of gas t a sit ia Ukraine during the forthcoming winter. Naftogaz responded furiously, accusing Gazprom of trying to This short-term trend correlates with the longer-term trend of East-West gas transit via Ukraine declining since the launch of Nord Stream in 2011, and supports the claims of PGNiG and the Polish government that the granting of additional capacity to Gazprom in relation to the OPAL pipeline will affect gas flows in Central Europe. instigate another gas crisis. In a final development at the end of 2016, Naftogaz issued a statement complaining about a reduction in Russian gas transit via Ukraine in the final week of December. This coincided with the first increase in gas flows through the OPAL pipeline, following the i ple e tatio of the Eu opea Co Gazp o issio s uli g o s a ess to that pipeli e a d the ultilate al agreement between Gazprom, Gazprom Export, the Conclusions and prognosis With regard to gas pricing, it is clear that the contract signed in January 2009 set the base price at a high level, while the relatively low oil prices at the time that the contract was signed virtually ensured that the contractual price would rise further. This made the contractual disputes that followed virtually inevitable. German regulator, BNetzA, and the OPAL pipeline operator, OPAL Gas Transport. However, the existing contract represents a legallybinding document signed by both parties, and it will be It its statement, Naftogaz cited ENTSOG data that daily gas flows through OPAL rose from 57.1 mcm to 80.5 mcm between the 22nd and 28th of December, while East-West gas flows through Uzhgorod, on the UkraineSlovakia border, fell from 148.9 mcm to 120.8 mcm. According to Naftogaz: extremely difficult for the arbitration panel to rule on a fai gas price. As long as the contract remains in force (until 2019), any change in the contractual price will be made possible only by negotiations between Naftogaz a d Gazp o , a d Gazp o s illi g ess to p o ide a discount on the existing contractual price. GAZPROM MONITOR ANNUAL REVIEW - Page 57 of 96 EGF Gazprom Monitor I the lo g te www.gpf-europe.com , Naftogaz s uest fo fai a d in market conditions, it way well also find e o o i all justified gas i po t p i es will be met not Gazp o through arbitration, but through the diversification of it the same reason. gas import sources following the expiry of the existing contract. The d a ati edu tio i Naftogaz s i po ts from Gazprom in recent years has been facilitated by just such a diversification, specifically the opening of large- apa it e e se flo i f ast u tu e that allo s the West-East import of gas from Slovakia. ot lia le fo ship-or-pa pe alties fo This would leave the Arbitration Institute considering Gazp o s lai de ts a d Naftogaz s lai ha gi g . The t o a e fo $ . fo $ i i gas o e- utuall e lusi e, to a certain extent. If the Arbitration Institute were to find in favour of Gazprom, this would be an With ega d to i po t olu es a d Naftogaz s i po ts acceptance of the gas price in the Gazprom- of gas from Europe, the arbitration ruling will derive Naftogaz contract, and thus Gazprom would not from a crucial question: Did the combination of be liable for over-charging. Conversely, if the dramatically- edu ed gas i po t de a d a d u fai Arbitration Institute were to find in favour of p i i g justif Naftogaz s failu e to eet its o t a tual Naftogaz, this would suggest that the price used obligations, with regard to the take-or-pay provision of to al ulate Naftogaz s de ts is too high, a d that the Gazprom-Naftogaz gas supply contract? The answer a downward revision of this price would reduce to this question will be directly influenced by the Naftogaz s de ts to Gazp o . arbitration ruling on the price at which Gazprom supplied gas to Naftogaz since January 2009. Therefore, the question of the price at which Gazprom sells gas to Naftogaz (and has done since In the 2015 edition of the Gazprom Monitor Annual January 2009) is central to this arbitration case. Review (written in July 2015), it was concluded that: The Of the $29bn apparently claimed by Gazprom, the $11bn claim relating to the Kharkiv Accords is likely to be dismissed, given the circumstances under which Gazprom declared the Kharkiv Accords to be null and void. fact that the European Commission antimonopoly statement of objections includes a claim that Gazprom may have used oil-indexed prices to abuse its monopoly position and overcharge some of its European customers provides a context that will be worrying for Gazprom. In light of the Vienna award in favour of RWE Transgaz, and the circumstances under which Naftogaz signed its current supply contract with Gazprom, it would not be surprising if the Arbitration Institute ruled that Naftogaz is not lia le fo its $ . take-or-pa pe alties. If the Institute were to find Naftogaz not liable for its Eighteen months on, the conclusions remain much the sa e: Gazp o is u likel to e a a ded a efu d o the discount provided through the Kharkiv Accords, and the claims by Gazprom and Naftogaz regarding the takeor-pay and ship-or-pay obligations may well also be dismissed. take-or-pay conditions due to significant changes GAZPROM MONITOR ANNUAL REVIEW - Page 58 of 96 EGF Gazprom Monitor www.gpf-europe.com Therefore, pricing remains the key issue: If the If such a solution remains elusive, the potential awards arbitration panel rules that the contractual price is to Gazprom and/or Naftogaz in terms of debt recovery binding, then Naftogaz will be obliged to pay its debts to and refunds for over-charging will be based on what the Gazprom based on that price. If the panel rules that the pa el o side s to e a fai price was unfair, and constituted an abuse of monopoly simply cannot be predicted. position, Gazprom may be obliged to provide a refund to Naftogaz fo o e - ha gi g . Ho e e , the size of that efu d ould ha e to e ased o a fai p i e, hi h would have to be determined by the panel. As with the European Commission antimonopoly case against Gazprom, it would be extremely difficult for a panel to ule o a fai gas p i e. gas p i e – A ruling that Regarding the issue of gas transit, earlier sections of this Annual Review have noted that if the first line of Turkish Stream is implemented, this will reduce the transit of Russian gas via Ukraine by approximately 11-13 bcm per year (the amount that Gazprom delivers to Turkey via Ukraine), and perhaps by a further 2-3 bcm (the amount that Gazprom delivers to Greece via Ukraine). If the 12 If it were possible to engage in wishful thinking, the most bcm Poseidon pipeline is implemented, thus justifying straightforward solution at this stage (given that the second line of Turkish Stream, the transit of Russian Naftogaz no longer purchases gas from Gazprom), would gas via Ukraine would fall even further. be to cancel the existing contract, and to reach a If the Eu opea diplomatic arrangement whereby Gazprom drops its claims regarding outstanding debts and take-or-pay penalties, Naftogaz drops its claims regarding overcharging and ship-or-pay penalties, and the AMCU Co issio uli g o Gazp o s expanded usage of OPAL is upheld, Gazprom will most likely re-route an additional 10 bcm per year away from Ukraine to Nord Stream 1 and the OPAL pipeline, for deliveries to Baumgarten. drops its claim against Gazprom regarding its alleged Finally, the fact that Gazprom has (in cooperation with abuse of its transit monopoly. its German partners) planned the EUGAL pipeline to This ould allo the t o sides to ipe the slate lea , and start afresh, turning their attention to the question of Uk ai e s gas t a sit s stem. Given that Gazprom wishes to reduce its gas transit via Ukraine (and, by extension, its ship-or-pay obligations), and Naftogaz deliver gas from Greifswald (where Nord Stream 2 is planned to make landfall) to the German-Czech border suggests that if Nord Stream 2 is implemented, it will be used to deliver gas to Central Europe, thus diverting flows away from Ukraine. wishes to take over usage of capacity currently booked by Gazprom in order to increase gas imports from a western direction, it is in the interests of both parties to renegotiate capacity bookings, with transit fees to be determined by the arbitration panel on the basis on transit fees levied by other regional pipeline operators (such as Eustream in Slovakia and Gaz System – the operator of the Yamal-Europe pipeline in Poland). Between them, this would be sufficient to reduce the transit of Russian gas via Ukraine to the minor volumes needed to supply Moldova, Romania, and Bulgaria. “u el , the , it is Naftogaz s i te est to ake the strongest possible commercial case for the continuation of gas transit via Ukraine, rather than undermining that business case by seeking higher transit fees? GAZPROM MONITOR ANNUAL REVIEW - Page 59 of 96 EGF Gazprom Monitor www.gpf-europe.com approximately $382-399 per mcm), but slightly higher Gazprom in the Asia-Pacific region than the price of $9 per mmbtu ($321-335 per mcm) The Gazprom-CNPC deal of May 2014 The ajo sto of as Gazp o s sig atu e of a sale and purchase contract with the China National Petroleum Corporation (CNPC) for the export of Russian that CNPC was reported to pay for supplies from Turkmenistan. The price will vary during the lifetime of the contract, and will be pegged to the price of a basket of oil products. gas to China. The agreement was analysed in both the May 2014 edition of the Gazprom Monitor № a d the 2014 edition of the Gazprom Monitor Annual Finally, the agreement stipulated the construction of a new pipeline to bring Russian gas to North-East China (the so- alled Easte Review. ‘oute . This pipeli e is named Po e of “i e ia . Gazprom stated that the pipeline For those unfamiliar with the agreement, the basic details are as follows. Beginning in 2018-2020, Gazprom planned to supply CNPC with 38 bcm of natural gas per year, for 30 years. The flexibility of delivery volumes was provided for by the take-or-pay clause in the contract. would be approximately 4,000km in length. This includes 800km from the Kovykta gas field to the Chayanda gas field, 2,200km from the Chayanda gas field to Blagoveshchensk, and 1,500km from Blagoveshchensk to Vladivostok. The take-or-pay percentage in the Gazprom-CNPC At Blagoveshchensk, a spur is planned to cross the contract was not made public. Fo o pa iso , Gazp o s gas suppl o t a ts ith European energy companies often contain take-or-pay clauses with minimum offtake volumes of approximately 80 percent of the nominal contractual volume, although this can be as low as 50 percent. Such clauses have been increasingly challenged by European energy companies border into China, while the section from Blagoveshchensk to Vladivostok was proposed to deliver East Siberian gas to the planned Vladivostok LNG terminal. The overall capacity of the Power of Siberia pipeline was planned at 61 bcm per year, of which approximately 40 bcm was slated for delivery to China and approximately 20 bcm for delivery to Vladivostok. in recent years. The price at which Gazprom agreed to sell gas to CNPC was also not disclosed, but reports suggested a price Developments in 2014-15: The Power of Siberia йaster slightly higher than $350 per thousand cubic metres ‘oute (mcm) ($9.38-9.80 per mmbtu3). This was about 10-15 The symbolic launch of the construction of the Power of percent less than the price of Russian gas at the German Siberia in Russia took place on the 1st of September border 2014. The Technical Agreement stating the basic in May 2014 ($10.70 per mmbtu, or parameters of the design, construction, and operation of the 3 Standard conversion rates suggest that 1000 cubic metres is equal to 35.7-37.3 MMBtu. Therefore, a price of $10 per MMBtu is equivalent to $357-373 per thousand cubic metres. Eastern Route, and the Russia-China Intergovernmental Agreement, were signed on the 13th of October. GAZPROM MONITOR ANNUAL REVIEW - Page 60 of 96 EGF Gazprom Monitor www.gpf-europe.com In March 2015, Stroytransgaz was awarded a $346m Russia-China border). For comparison, 1,500km is also contract for the construction of the first 200km of the the approximate distance from Paris to Warsaw. Po e of “i e ia pipeli e, while the remainder of the Furthermore, the proposed capacity of Power of Siberia pipeline was split into ten sections, with construction contracts for each section to be awarded by competitive tender. the pipeline was reduced from 61 bcm to 38 bcm, which will allow Gazprom to construct fewer lines and/or with less compressor station capacity. While these changes The Russia-China Intergovernmental Agreement was will make the pipeline significantly cheaper for Gazprom, ratified by the Russian parliament in April 2015, and they will leave Gazprom completely dependent on signed by the Russian President, Vladimir Putin, on the pipeline exports to China for the monetarisation of its 2nd of May 2015. gas production in Eastern Siberia. I a i te ie ith Gazp o s o po ate agazi e o the 15th of May, the Deputy Chairman of the Management Committee of Gazprom, Vitaly Markelov, p ese ted a o e detailed pi tu e of Gazp o s pla s regarding the Eastern and Western Routes: Gazprom aims to bring the first line of the Power of Siberia (a linear section of 2,240km with one compressor station) online by the end of 2018, with a limited initial capacity of 5 bcm per year. The commissioning of more compressor stations could raise the capacity to 10 bcm in 2020, 15 bcm in 2021, 22 bcm in 2022, and 30 bcm per year in 2023. The final project capacity of 38 bcm was scheduled to be reached between 2024 and 2031. On the 29th of June 2015, CNPC held a ceremonial first Developments in 2014-15: The Western Route I additio to the Po e of “i e ia Easte ‘oute , Gazprom has also pursued the construction of a second pipeline to China. The Weste ‘oute also k o as the Altai Pipeline), is proposed to deliver gas from ‘ussia s Ya al Pe i sula to este Chi a, ia ‘ussia s Altai region (where Russia and China share a 50km border). In particular, Gazprom has sought to sign a proposed 30-year, 30 bcm per year deal with CNPC for the delivery of gas via the Western Route. This would i g ‘ussia s gas e po ts to Chi a up to pe ea – the volume given in the original Gazprom-CNPC Framework Agreement. welding of the Chinese section of the Power of Siberia gas pipeline, near the Chinese city of Heihe in the northern Heilongjiang province, which borders Russia. The framework agreement for the Western Route was signed on the 9th of November 2014, and the Heads of Ag ee e t as sig ed on the 8th of May 2015. However, on the 22nd of July 2015, the Russian business Developments in 2014-15: Vladivostok LNG cancelled daily, Vedomosti, broke the story that progress on the In June 2015, Gazprom abandoned the Vladivostok LNG Western Route is dela ed i defi itel project. The cancellation of the Vladivostok LNG project на неоп еделенны means that the length of the Power of Siberia pipeline may be shortened by approximately 1,500km (the distance from Blagoveshchensk to Vladivostok along the атя ает я ок ). The news was reportedly sourced from two government officials, who explained the Chinese government was e isi g its e e g ala e . A broader economic slowdown cast doubts GAZPROM MONITOR ANNUAL REVIEW - Page 61 of 96 EGF Gazprom Monitor www.gpf-europe.com over forecasts of Chi a s gas demand, while the decline abandonment of gas production at Chayanda and in oil prices had made oil-indexed LNG supplies more Kovykta would leave the Amur GPP as a stranded asset. competitive against the price of supplies offered by On the 17th of December, Gazprom and CNPC signed an Gazp o fo deli e ia the Western Route . agreement on the design and construction of the crossborder section of the Eastern Route. The proposed border crossing point was under the Amur river, close to Progress on the Power of Siberia the Russian city of Blagoveshchensk. At the same On the 3rd of September 2015, Gazprom announced that meeting, Gazprom and CNPC representatives signed an it had signed a Memorandum of Understanding with A tion Plan for the Project of Natural Gas Supply to CNPC on the proposal to supply gas to China from Chi a ia a Pipeli e f o ‘ussia s Fa East. This ould e a hie ed utilisi g offshore gas production from fields adjacent to Sakhalin Island, and by expanding the Sakhalin-Khabarovsk the ‘ussia Fa East . Given that the Gazprom-CNPC agreement foresees limited initial deliveries of 5 bcm per year from 20182020, before later gradually ramping up to the full 38 pipeline connection. bcm per year between 2024 and 2031, the limited export Given that the cancellation of the Vladivostok LNG project reduced the necessary capacity of the Power of Siberia Eastern Route from 61 bcm to 38 bcm, the export of 10 bcm per year from ‘ussia s Fa East could see the Power of Siberia reduced to a single line of 28 bcm per of gas from ‘ussia s Fa East would be the easiest way for Gazprom to meet its commitments in the initial stages of the contract. This would also give Gazprom more time to develop the Chayanda gas field (estimated annual production year (the same capacity as one line of Nord Stream). volume: 25 bcm). The Kovykta field, 800km west of In October, Gazprom launched the construction of the Chayanda, could be pushed back to the long-term, if the Amur Gas Processing Plant (GPP). Gazprom intends to combined production Chayanda a d Gazp o deliver gas from the Kovyktinskoye gas field (at the the Far East is suffi ie t to Irkutsk gas production centre) and from the Chayandinskoye gas field (at the Yakutia gas production eet Gazp o s fields i s o t a tual commitments. This, in turn, would substantially reduce the length of the Power of Siberia pipeline. centre). At the Amur GPP, the gas will be stripped of its useful impurities (ethane, propane, butane, pentanehexane fraction and helium), with the remaining methane being delivered to China. The facility is planned to have a capacity of 49 bcm per year, in addition to helium production of 60 million cubic metres per year. The winter of 2015-16 was a difficult one for Gazprom with regard to the Power of Siberia. On the 29th of December, Gazprom cancelled tenders worth 156bn Roubles ($2.15bn) for the construction of 822km of the Power of Siberia pipeline. Then, in January, Gazprom announced that it would halve its 2016 investment in the The construction of the Amur GPP was an important signal that Gazprom intended to continue with the project, from 200bn Roubles ($2.6bn) to 92bn Roubles ($1.17bn). The reduction of investment was justified as development of gas production in Eastern Siberia, as the GAZPROM MONITOR ANNUAL REVIEW - Page 62 of 96 EGF Gazprom Monitor www.gpf-europe.com ost opti isatio that ould ould ot affe t the lau h date . the St Petersburg Gas Forum on the 6th of October. Indeed, Miller went on to claim that an agreement In March, it was announced that Gazprom had secured a five-year loan of $2bn from the Bank of China. With western sanctions limiting the ability of Russian companies to secure international loans for periods longer than 30 days, it was not surprising that Gazprom ould e sig ed as ea l as the sp i g of . The issue was discussed again at a Gazprom-CNPC o ki g eeti g i De e e a d du i g Mille s isit to Beijing in March 2016. However, in April, Markelov aised his o e s that Ou Chi ese partners are turned to China for financial assistance. putting pressure on Gazprom over the issue of pricing, On the 4th of September, during the G20 Summit in and using the availability of Russian gas in the form of Hangzhou, China, Gazprom and CNPC signed an EPC LNG as a a gu e t . (engineering, procurement, and construction) contract in In June 2016, Miller accompanied President Putin on his relation to the underwater crossing under the Amur visit to Beijing and discussed progress on the Eastern and River as part of cross-border section of the Power of Western routes with Zhang Gaoli, Vice-Premier of the Siberia project. The crossing will be constructed by the State Council of the People's Republic of China. CNPC subsidiary, China Petroleum Pipeline. Following that meeting, a CNPC representative was Speaking on the sidelines of the St Petersburg Gas Forum quoted as stating: on the 4th of October, the Vice President of the China Negotiations are not yet at the stage when it is National Petroleum Corporation (CNPC), Xu Wenrong, possible to talk about a contract. There are still stated that "The Russia-China gas pipeline will become big differences in approaches between the ope atio al i pa ties. We ha e t e e talked a out p i e et. ,i at the latest . If this assessment proves accurate, it would represent a According to the CNPC representative (quoted by delay of two years from the originally-intended launch ‘ussia date of 2018, but would also fall within the timeframe of i teg ated optio 2019-2021 that has since been stated as the target joint production, construction of the gas pipeline and its launch date. subsequent operation, and gas sales. Conversely, sou es , CNPC as p oposi g a to Gazp o , hi h e ti all ould include Gazprom wants to sell it gas to China on the border. Gazp o The Western Route s o e s o e the CNPC p oposal ste fo domestic subsidies provided by the Chinese government, The 18 months between July 2015 and December saw which would reduce the profitability of sales to Chinese several meetings between Gazprom and CNPC take place consumers. to dis uss the Weste ‘oute fo ‘ussia gas deli e ies to China. In August 2015, the Gazprom CEO, Alexei Mille , epo ted good d a i s i thei a da ou ed sig ifi a t p og ess i egotiatio s, egotiatio s at GAZPROM MONITOR ANNUAL REVIEW - Page 63 of 96 EGF Gazprom Monitor www.gpf-europe.com Sakhalin-II: Expansion planned but not confirmed Talks between Gazprom, Mitsui, and Mitsubishi on the Sakhalin-II is ‘ussia s fi st a d, so fa , o l expansion of Sakhalin-II continued throughout 2016. On LNG e po t terminal. The terminal consists of two LNG trains, with a combined annual capacity of 9.6 million tonnes of LNG (14.5 bcm of natural gas) per year. The Sakhalin-II project is operated by the Sakhalin Energy consortium, which consists of Gazprom (50 percent plus one share), Shell (27.5 percent minus one share), Mitsui & Co. (12.5 percent) and Mitsubishi Corporation (10 percent). Natural gas for the Sakhalin-II LNG terminal is produced at the Piltun-Astokhskoye and Lunskoye oil and gas fields off Sakhalin Island. The Piltun-Astokhskoye field produces approximately 1.6 bcm of associated gas per the 10th of November, Gazprom announced that it had launched talks with the Japan Bank for International Cooperation (JBIC) over financing for the expansion. The role of Japan cannot be understated, as it was the destination for 10.5 bcm (72 percent) of the 14.5 bcm exported from Sakhalin-II in 2015. Finally, on the 16th of December, the Gazprom CEO, Alexei Miller, Cooperation signed with Agreements representatives on of Strategic Mitsui and Mitsubishi that referred to (but were not limited to) the expansion of the Sakhalin-II LNG terminal. year, while the Lunskoye field produces roughly 18.6 bcm of natural gas per year. Sakhalin-III: Three offshore gas fields The natural gas produced off Sakhalin Island is not only exported via the Sakhalin-II LNG terminal. It is also delivered to consumers on the Russian mainland via the Sakhalin-Khabarovsk-Vladivostok pipeline. The pipeline is over 1,800km in length with an annual design capacity of 5.5 bcm. by 50 percent, through the addition of a third LNG train. Gazprom and Shell signed a roadmap for the expansion of Sakhalin-II in February 2014, and an agreement to conduct Front-End Engineering and Design (FEED) was signed in September 2014. Island, under the guise of the Sakhalin-III project. At present, the Sakhalin-III project consists of the development of three gas fields: Kirinskoye, Yuzhno- According to Gazprom, the Kirinskoye field is located 28km off the coast of Sakhalin Island and is estimated to contain C1 reserves of 162.bcm of natural gas and 19.1 million tons of gas condensate. Gazprom first produced gas at the field in October 2013, with commercial production beginning in 2014. Gazprom plans to produce During the St Petersburg Economic Forum, in June 2015, the Gazprom CEO, Alexei Miller, and his counterpart from Shell, Ben van Beurden, signed a Memorandum on adding a third train to the Sakhalin-II LNG export i al. A o di g to Gazp o is also developing offshore gas production off Sakhalin Kirinskoye, and Mynginskoye. Gazprom has proposed expanding the terminal capacity te To boost its gas production in Russia s Fa East, Gazprom s p ess elease, supplies for the third train will be provided by Gazprom from its 5.5 bcm per year at Kirinskoye. The Yuzhno-Kirinskoye field was discovered by Gazprom i . Its С +С ese es a ou t to illion cubic meters of gas and 110.6 million tons of gas condensate. Gazprom expects production from the field to be approximately 21 bcm per year, starting from 2021. Sakhalin-III project (see below). GAZPROM MONITOR ANNUAL REVIEW - Page 64 of 96 EGF Gazprom Monitor www.gpf-europe.com The Mynginskoye field was discovered by Gazprom in . Its С +С ese es a ou t to .8 bcm of natural and still meeting its 38 bcm per year contractual commitments to CNPC. gas and 2.5 million tons of gas condensate. Gazprom has not yet estimated annual production volumes from this Sakhalin-III: The impact of US sanctions field. In September 2016, Gazprom reported the probable dis o e of a e field i the sa e offsho e Ki i sk block as the three fields noted above. The field has not yet been named, and its probable reserves have not yet The size of the reserves and potential annual production volumes make the Yuzhno-Kirinskoye field an important one for Gazprom. Indeed, the December 2015 Action Plan that opened the possibility of exporting gas from ‘ussia s Fa East to Chi a ould e ealised th ough the development of the Yuzhno-Kirinskoye field and the expansion of the Sakhalin-Khabarovsk- Vladivostok pipeline, and the addition of a spur from Khabarovsk to Blagoveshchensk. This would undoubtedly be quicker and cheaper, given that it is easier to expand an existing pipeline than construct an entirely new one (from Sakhalin to Khabarovsk) and the distance from Khabarovsk to Blagoveshchensk by road is just 650km, in comparison with the proposed pipeline distance of 2,200km from the Chayanda field to Blagoveshchensk. In this context, the strategy of developing YuzhnoKirinskoye to its 21 bcm production capacity, and using it to meet the needs of a third train at Sakhalin-II (approximately 8 bcm per year) and the first 13 bcm per year of exports to China, must seem appealing to Gazprom. Indeed, it would grant Gazprom the possibility i g of August , “hell ag eed to s ap a stake i o e of its i te atio al e e g assets i fo a stake i Gazp o etu s “akhali -III project. The two sides declined to give further details at that stage. However, been estimated. parallel At the egi within days of the Gazprom-Shell announcement, the US government added the YuzhnoKirinskoye project to its sanctions list. This not only prevents the use of American equipment on the project, but more importantly, sends a clear symbolic message to Shell to back away from participation in the project. The specific elements of the sanctions were examined in detail in the September 2015 edition of the Gazprom Monitor. I te esti gl , Gazp o s esti ates of the Yuzh o- Kirinskoye reserves and annual production volumes have been increased, and the production start-up date brought forward, since we reported on this issue in September 2015. The sanctions were significant due to the impact they ould ha e o Gazp o s a ilit to de elop gas production at Yuzhno-Ki i sko e, a d Gazp o s a ilit to produce enough gas to supply an expanded Sakhalin-II LNG terminal. By delaying the development of YuzhnoKirinskoye, the sanctions could, in turn, delay the expansion of Sakhalin-II. Furthermore, it could adversely affe t Gazp o fo s a ilit to suppl pipeli e gas to Chi a ‘ussia s Fa East. of constructing just one line from Chayanda and using it In May 2016, Gazprom announced that the sanctions at its proposed production capacity of 25 bcm per year, had not affected their activities - the drilling of GAZPROM MONITOR ANNUAL REVIEW - Page 65 of 96 EGF Gazprom Monitor www.gpf-europe.com exploratory wells – at the project, and would not affect China (26 bcm), India (22 bcm), and Taiwan (19 bcm). the commissioning schedule. Two months later, in July, The sixth-largest LNG importer in the region, Thailand, the Shell CEO, Ben van Beurden, gave an interview to the imported less than 4 bcm. Russian newspaper, Vedomosti, in which he stated that Shell was still interested in participating in the development of Yuzhno-Kirinskoye, and that the development of the field could be necessary for the The Japanese and South Korean LNG import markets are considered saturated, while experts have focused on Chi a a d I dia a e the egio s ajo g o th a kets for the coming decade. expansion of the Sakhalin-II LNG export terminal. In terms of competition on the global LNG market, Qatar In September, the Deputy Chairman of Gazprom s Management Committee, Vitaly Markelov, told the o pa s o po ate agazi e that the o pa had drilled eight prospecting and exploratory wells, and that a d Nige ia a e the ajo ala i g fo es, di idi g their exports between the European and Asia-Pacific markets, with 2015 exports of 106 bcm and 28 bcm respectively. production would be launched in 2021, with full production capacity to be reached through the drilling of 37 production wells. On the Asia-Pacific market, the major exporters in 2015 were Australia (39 bcm), Malaysia (34 bcm), and Indonesia (31 bcm). In addition to the 14.5 bcm exported from Russia to the Asia-Pacific market, supplies were The Asia-Pacific regional gas market The Asia-Pacific market is divided into two segments: also provided by Papua New Guinea (10 bcm), Brunei (9 bcm), Oman (10 bcm), and UAE (8 bcm). Pipeline and LNG deliveries. According to BP, pipeline By the end of 2015, 50 million tonnes per year (mtpa) of imports by Asia-Pacific countries in 2015 totalled 61 bcm LNG export capacity was under construction in Australia, – Approximately equal to total pipeline imports by the along with 62 mtpa in the United States. The growth in countries of the former Soviet Union (62 bcm), below LNG export capacity from these two countries alone the pipeline imports of the United States (74 bcm), and represents a significant increase on the global LNG far below the pipeline imports of the European market export capacity of 308 mtpa. (401 bcm). Pipeline deliveries by from Turkmenistan to China (34 bcm) accounted for more than half of total pipeline imports in the Asia-Pacific region. At the same time, 72 mtpa of regasification capacity was under construction at the end of 2015, of which 52 mtpa was in Asia. Specifically, eight terminals (with a total By contrast, LNG imports in the Asia-Pacific region capacity of 24 mtpa) were under construction in China, totalled 239 bcm – Far more than the 55 bcm imported while an additional import capacity of 10 mtpa was the ou t ies of Eu ope a d Eu asia , the imported by South and Central America, and the 10 bcm each imported by North America and the Middle East. under construction in India. If Gazprom is going to successfully market additional LNG exports from Sakhalin-II, those supplies will need to Within the Asia-Pacific region, the largest LNG importers be competitive with new supplies from the United States in 2015 were Japan (118 bcm), South Korea (43 bcm), and Australia. GAZPROM MONITOR ANNUAL REVIEW - Page 66 of 96 EGF Gazprom Monitor www.gpf-europe.com addition to the cost of building the Vladivostok LNG Analysis and prognosis The Po e of “i e ia Easte Gazp o s ‘oute is u dou tedl ajo p oje t fo the de elop e t of gas exports to the Asia-Pacific market. By the end of 2016, 445km of the 2,200km from the Chayanda gas field to terminal itself, could leave Gazprom struggling to be competitive on the Asia-Pacific LNG market. In that regard, a simple expansion of the Sakhalin-II LNG terminal is a much safer bet. the cross-border point of Blagoveshchensk had been Finally, negotiatio s o e the Weste laid, construction of the Amur GPP had begun, and continue without resolution. In March 2016, my article Gazp o The “hifti g Geopoliti s of ‘ussia s Natu al Gas Exports o ti ued to efe to the p oje t as ei g o ‘oute a e set to s hedule . The latest official pronouncements that the was published by Taylor & Francis in the journal pipeline will be launched in 2019-2020 gives Gazprom up Geopolitics. That article is available for free until the end to four years to lay a further 1,755km of pipeline across of June 2017, as part of the T&F commemoration of 25 the virgin territory of Eastern Siberia, under challenging years since the dissolution of the USSR. conditions. In that article, I argued that CNPC would most likely seek It would not be surprising if, in order to meet the a lower price than that agreed for supplies delivered via deadline of beginning gas supplies to China by the end of the Eastern Route, partly due to the need for CNPC to 2020, Gazprom began work on a shorter pipeline from transport the imported gas from North-West China to Khabarovsk and a plan to supply initial volumes from the the industrial and population centres further east, and Sakhalin-III project. This would buy time (potentially an partly due to strong price competition from gas supplies extra couple of years) to develop gas production at from Central Asia (Turkmenistan in particular). Chayanda and complete the Power of Siberia. Gazp o s a ilit to suppl Chi a ith gas f o In this context, the reluctance of CNPC to commit to ‘ussia s large volumes of pipeline imports via the Western Route Far East will depend on the development of gas unless production at the offshore Yuzhno-Kirinskoye gas field. substantially lower than the price Gazprom currently At this stage, it is difficult to predict the impact of US receives to export gas from the Yamal Peninsula to sanctions on the project, particularly given that the Europe) means that the focus is likely to remain on the scheduled launch date is still five years away. Eastern Route for the foreseeable future. The cancellation of the Vladivostok LNG project was Regarding exports beyond China, the expansion of the sensible, given the financial limitations Gazprom faces as Sakhalin-II LNG export terminal is more cost-effective it attempts to implement multiple projects in parallel: than the construction of an entirely new LNG export The Power of Siberia and related new gas production; terminal in Vladivostok. However, new supplies from The expansion of the Sakhalin-II LNG export terminal; Sakhalin-II will face price competition from projects in Nord Stream 2; and Turkish Stream. Australia and the United States, and the size of the The necessity of developing additional gas production at Kovykta and extra capacity on the Power of Siberia, in the price is extremely competitive (i.e. market for those supplies will depend on the price elasticity of LNG demand in China and India. GAZPROM MONITOR ANNUAL REVIEW - Page 67 of 96 EGF Gazprom Monitor www.gpf-europe.com In the longer term, the need for the Western Route to China and the Vladivostok LNG terminal will be significantly influenced by the growth in natural gas demand in key markets (China and India), which in turn will be strongly influenced by the relationship between domestic gas prices and the price if gas imports. In both China and India, the challenge lies in finding prices that are high enough to attract imports, but low enough to encourage demand. Thus far, the failure to find such a s eet spot has esulted i o ti ued depe de e o coal consumption in both of these countries. GAZPROM MONITOR ANNUAL REVIEW - Page 68 of 96 EGF Gazprom Monitor A final word To conclude, 2015-16 saw a set of mixed blessings for www.gpf-europe.com 2030/31 and thus limit demand for alternative gas supplies on those markets. Gazprom. The headline figures of year-on-year increases One of the most significant issues for Gazprom on the of gas exports to Europe in both 2015 and 2016 made European gas market over the past several years has impressive reading, especially as Gazprom broke its own been the ongoing European Commission antimonopoly records for gas exports to the European market. investigation. After the interest generated by the European gas imports also increased, driven by a o i atio of isi g de a d a d de li i g do esti EU gas production. The increase in EU gas demand was at least partially driven by the decline in both oil-indexed and spot gas prices between December 2014 and September 2016, which made gas more competitive for Commission issuing its Statement of Objections in April 2015, and the first oral hearing in December 2015, the year 2016 turned out to be rather quiet. The most notable development of the year took place in late December, when Gazprom submitted its formal commitments. power generation. In the 2015 edition of the Gazprom During 2017, those commitments will be submitted to a Monitor Annual Review, we predicted that European gas market test, and feedback from stakeholders, before a prices would remain depressed through the remainder final decision is made on the case. The contents of the of 2015 and into 2016, and this proved to be the case. commitments were not made public at the time of the After a tidal wave of contractual negotiations and arbitration cases between 2010 and 2014, the period of 2015-16 saw positive developments for Gazprom as it successfully re-negotiated its contracts with Uniper and ENGIE, t o of Eu ope s la gest gas-importing companies. The Baltic regional gas market has also see substantial developments over the past 18 months. As the national gas markets of the region have been reformed and submission, but details are bought to emerge as the commitments are presented to stakeholders. In terms of pipeline projects, 2015-2016 saw several ases of o e step fo a d, o e step a k . I elatio to Nord Stream 1, Gazprom finally received a ruling from the European Commission on its use of the OPAL pipeline only to see that ruling challenged by PGNiG and the Polish government. liberalised, Gazprom has adapted to the changes by With regard to Nord Stream 2, Gazprom signed a selling its shares in Eesti Gaas (Estonia) and Gasum shareholder agreement, began its preparatory works, (Finland), in addition to its previous sale of its stakes in and developed plans for the onshore German sections Lietuvos Dujos and Amber Grid (Lithuania). (the expansion of NEL and construction of EUGAL), only The company has shown flexibility, signing a relatively short-term (three year) contract with Eesti Gaas and selling gas through its first Baltic gas sales auction. to see the project face a wave of criticism from European politicians and the shareholder agreement to unravel in the face of Polish anti-monopoly regulation. However, Gazprom has retained long-term contracts The Turkish Stream project also faced serious challenges, with Lat ijas Gāze and Gasum, which will run until having fallen victim to a diplomatic crisis in November 2015 only to be revived by a summer rapprochement GAZPROM MONITOR ANNUAL REVIEW - Page 69 of 96 EGF Gazprom Monitor www.gpf-europe.com and the signing of an intergovernmental agreement in In Asia, the Power of Siberia has experienced delays, the autumn of 2016. with the intended launch moved back from 2018 to I last ea s Annual Review, we stated that we expect 2019- that the first line will be built for exports to Turkey, but the second line is doubtful and the third and fourth lines are highly unlikely to be built, given the scaling back of o st u tio o k o ‘ussia s o “outhe Co ido . Indeed, Gazprom has now scaled the plans back to two lines, and the Turkish government has thus far only issued construction permits for the first line. Last ea s Annual Review also noted the challenge Gazprom faces in terms of how to deliver the gas . Negotiatio s o e Gazp o s p efe ed Western Route have yielded little tangible progress. Indeed, the whole fra e o k fo Gazp o s deli e of Russian gas to China has been questioned by the possibility of scaling back the development of gas production in Eastern Siberia, in favour of delivering gas to China from the Russian Far East. Finally, in the context of new LNG export projects coming online in Australia a d the U ited “tates, Gazp o appea s to ha e issed the oat regarding the expansion of the Sakhalin-II LNG export terminal. onwards from the Turkish-Greek border. In response, Gazprom appears to have moved away from plans to deliver Turkish Stream gas to south-east Europe (à la South Stream) and instead intends to supply the gas to Greece and Italy via the proposed Poseidon pipeline. Overall, 2015-16 was a successful period for Gazprom on the European gas market, with record sales volumes and the cementing of relationships with key commercial pa t e s. P og ess o the th ee flagship p oje ts – Nord Stream II, Turkish Stream, and the Power of Siberia – Those eagerly awaiting the results of the Gazprom- was rather more limited. Naftogaz arbitration tribunal were left disappointed, as the outcome will not be finalised until 2017. However, Naftogaz surprised many by going more than a year without any gas purchases from Gazprom. Given the generally positive outlook for the European gas market in 2017 with regard to stable prices and steadily growing demand, the challenges for Gazprom during the coming year are more likely to be legal than For Gazprom, its relationship with Naftogaz has fundamentally changed. The European Commission ruling on OPAL could (if sustained) see Gazprom further commercial, with stage set for final resolutions of the European Commission antimonopoly investigation and the Naftogaz arbitration tribunal. reduce its dependence on Ukrainian transit, while Naftogaz has well and truly broken its dependence on gas purchases from Gazprom. It may well be the case that the outcome of the arbitration case is followed by the de jure cancellation of the Gazprom-Naftogaz gas supply contract, on the basis that it has already been With much to look forward to in the coming months, we hope you will join us in following all of these developments through the monthly issues of the Gazprom Monitor, just as we hope you have enjoyed reading this Annual Review. abandoned de facto. We can only wait and see. GAZPROM MONITOR ANNUAL REVIEW - Page 70 of 96 EGF Gazprom Monitor www.gpf-europe.com Appendix I Charts and Supplementary Materials GAZPROM MONITOR ANNUAL REVIEW - Page 71 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.1. Gazprom Group gas sales to European countries, 2011-15 (billion cubic metres) Source: Gazprom, 2016. Gazprom in Figures, 2011-2015. Note: Gazprom Group sales include both sales of Russian gas by the Gazprom subsidiary, Gazprom Export, and sales by Gazprom Marketing & Trading Ltd, which purchases gas wholesale on European hubs GAZPROM MONITOR ANNUAL REVIEW - Page 72 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.2. Gazprom Group gas sales to the former Soviet Union, 2011-15 (billion cubic metres) Source: Gazprom, 2016. Gazprom in Figures, 2011-2015. GAZPROM MONITOR ANNUAL REVIEW - Page 73 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.3. Gazprom Group gas sales on different markets, 2008-2015 (billion cubic metres) Gazprom Group Gas Sales, 2008-2015 (bcm) 600.0 554.2 488.1 500.0 506.4 528.5 491.8 488.2 444.5 435.9 400.0 290.1 300.0 272.1 288.1 290.2 274.7 254.5 237.0 211.2 200.0 167.6 148.3 148.1 156.6 67.7 70.2 81.7 96.5 100.0 151.0 66.1 174.3 159.4 184.4 59.4 48.1 40.3 2013 2014 2015 2008 2009 2010 Far Abroad 2011 FSU 2012 Russia Total Source: Gazprom, 2016, Gazprom in Figures 2011-2015 GAZPROM MONITOR ANNUAL REVIEW - Page 74 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.4. EU-28 gas production, consumption, and imports, 1990-2014 (billion cubic metres) EU Natural Gas Production, Consumption, and Gross Imports, 19902014 (bcm) 600.0 Volume (bcm) 500.0 400.0 300.0 200.0 100.0 0.0 Production Consumption Gross Imports Graph created by the author Data source: Eurostat (nrg_103a; nrg_109a; nrg_124a) GAZPROM MONITOR ANNUAL REVIEW - Page 75 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.5. Natural gas production in the UK and Netherlands, 2004-2015 (billion cubic metres) EU Gas Production By UK and Netherlands, 2004-2015 (bcm) 120.0 104.5 95.6 100.0 86.7 78.1 80.0 76.4 75.5 64.7 60.0 74.1 67.7 66.7 74.4 69.5 69.1 60.4 72.1 67.9 65.5 46.3 62.0 49.1 40.0 42.2 39.6 39.6 2012 2013 2014 42.7 20.0 0.0 2004 2005 2006 2007 2008 2009 United Kingdom 2010 2011 2015 Netherlands Graph created by the author Data source: Eurostat (nrg_103a; nrg_103m) GAZPROM MONITOR ANNUAL REVIEW - Page 76 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.6. Natural gas production in the UK and Netherlands, 2004-2015 (billion cubic metres) EU Gas Production By Smaller Producers, 2004-2015 (bcm) 20.0 18.0 16.0 14.0 12.0 10.0 8.0 6.0 4.0 2.0 0.0 2004 2005 2006 2007 Germany 2008 Italy 2009 2010 Denmark 2011 Romania 2012 2013 2014 2015 Poland Graph created by the author Data source: Eurostat (nrg_103a; nrg_103m) GAZPROM MONITOR ANNUAL REVIEW - Page 77 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.7. EU-28 gas production, consumption, and net imports, 2008-2015 (billion cubic metres) EU Gas Consumption, Production, and Net Imports, 2008-2015 (bcm) 600.0 535.6 532.6 501.5 479.9 500.0 460.0 464.7 415.0 400.0 326.1 320.9 339.0 321.8 294.8 302.9 159.1 159.3 300.0 207.3 200.0 186.6 187.1 169.1 279.6 433.0 300.0 142.3 129.1 2014 2015 100.0 0.0 2008 2009 2010 Production 2011 Imports 2012 2013 Consumption Graph created by the author Data converted from Terajoules (Gross Calorific Value) using the formula 1 mmcm = 38.6449 Terajoules (GCV) Data source: Eurostat (nrg_103m) GAZPROM MONITOR ANNUAL REVIEW - Page 78 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.8. EU-28 gas consumption, January to August, 2015 vs 2016 (billion cubic metres) EU Gas Consumption, January to August 2015 vs 2016 (bcm) 60.0 58.3 55.0 51.3 55.4 50.0 46.2 49.0 45.0 45.5 40.0 34.6 35.0 27.8 33.1 30.0 24.4 25.0 24.5 27.0 23.7 20.0 23.8 23.6 22.3 15.0 Jan Feb Mar Apr 2015 May Jun Jul Aug 2016 Graph created by the author Data converted from Terajoules (Gross Calorific Value) using the formula 1 mmcm = 38.6449 Terajoules (GCV) Data source: Eurostat (nrg_103m) GAZPROM MONITOR ANNUAL REVIEW - Page 79 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.9. EU-28 gas production, January to August, 2015 vs 2016 (billion cubic metres) EU Gas Production, January to August 2015 vs 2016 (bcm) 16.0 15.0 15.6 14.3 14.0 13.0 12.2 12.7 12.0 10.4 11.0 10.2 11.0 10.0 9.3 9.5 9.0 9.2 8.7 9.6 9.0 8.6 8.0 7.6 7.0 7.7 6.0 Jan Feb Mar Apr 2015 May Jun Jul Aug 2016 Graph created by the author Data converted from Terajoules (Gross Calorific Value) using the formula 1 mmcm = 38.6449 Terajoules (GCV) Data source: Eurostat (nrg_103m) GAZPROM MONITOR ANNUAL REVIEW - Page 80 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.10. EU-28 gas net imports, January to August, 2015 vs 2016 (billion cubic metres) EU Gas Net Imports, January to August 2015 vs 2016 (bcm) 30.0 28.4 28.0 27.4 27.4 27.3 27.7 26.0 27.9 27.5 26.0 24.2 25.2 25.5 24.0 24.3 24.1 23.6 22.0 22.3 19.6 20.0 18.0 Jan Feb Mar Apr 2015 May Jun Jul Aug 2016 Graph created by the author Data converted from Terajoules (Gross Calorific Value) using the formula 1 mmcm = 38.6449 Terajoules (GCV) Data source: Eurostat (nrg_103m) GAZPROM MONITOR ANNUAL REVIEW - Page 81 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.11. EU-28 gas imports by source, 1990-2014 (million cubic metres) EU-28 Natural Gas Imports by Source (1990-2014) 140,000 120,000 Volume (mmcm) 100,000 Russia 80,000 Norway Algeria 60,000 Qatar Libya+Egypt Other LNG 40,000 20,000 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 0 Graph created by the author Data source: Eurostat (nrg_124a) GAZPROM MONITOR ANNUAL REVIEW - Page 82 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.12. EU-28 electricity generation by fuel, 1990-2014 Source: IEA, 2016. Energy balances: EU-28. Available at: http://www.iea.org/stats/WebGraphs/EU282.pdf GAZPROM MONITOR ANNUAL REVIEW - Page 83 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.13. EU Natural gas prices in Europe and the United States, 2014-2016 ($ per mmbtu) Data sources: BAFA, EIA, Bloomberg, Gazprom, IMF, World Bank, FST RF, ICE Key: ZEE-BELG Day-Ahead price for Zeebrugge, Belgium HH-USA Henry Hub price, USA RUS-GER Price of Russian gas at the German border (WGI estimation) Source: East European Gas Analysis, 2017. Price of natural gas and crude oil. Available at: http://www.eegas.com/price_chart.htm GAZPROM MONITOR ANNUAL REVIEW - Page 84 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.14. Natural gas prices in Europe, 2014-2016 ($ per mmbtu) Data sources: BAFA, EIA, Bloomberg, Gazprom, IMF, World Bank, FST RF, ICE Key: GBP-BAFA German border price (average import price reported by BAFA) TTF Title Transfer Facility, The Netherlands RUS-GER Price of Russian gas at the German border (WGI estimation) WB-NGE World Bank - Natural Gas (Europe), average import border price, including UK Source: East European Gas Analysis, 2017. Price of natural gas and crude oil. Available at: http://www.eegas.com/price_chart.htm GAZPROM MONITOR ANNUAL REVIEW - Page 85 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.15. Natural gas prices in Europe, 2014-2016 ($ per mmbtu) Data sources: BAFA, EIA, Bloomberg, Gazprom, IMF, World Bank, FST RF, ICE Key: HH-USA Henry Hub price, USA NBP-UK National Balancing Point, The United Kingdom RUS-GER Price of Russian gas at the German border (WGI estimation) Brent Crude ICE Brent Index RUS-FAS Gas export price index of FAS RF (Federal Antimonopoly Service of the Russian Federation) Source: East European Gas Analysis, 2017. Price of natural gas and crude oil. Available at: http://www.eegas.com/price_chart.htm GAZPROM MONITOR ANNUAL REVIEW - Page 86 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.16. Countries hosting energy companies raided by EU antitrust investigators in September 2011 Autho s o o k. GAZPROM MONITOR ANNUAL REVIEW - Page 87 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.17. Map of Nord Stream, OPAL, and NEL pipelines Autho s o o k, combining two maps, sourced from OPAL Gas Transport and NEL Gas Transport. Sources: OPAL Gas Transport, 2017. OPAL infrastructure. Available at: <http://www.opal-gastransport.de/en/press/press-photos/ NEL Gas Transport, 2017. NEL infrastructure. Available at: http://www.nel-gastransport.de/en/press/press-photos/ GAZPROM MONITOR ANNUAL REVIEW - Page 88 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig. 18. Major new gas pipelines in Russia to connect gas production centres with export routes Autho s o o k, ased o i fo atio f o Gazp o . Key: Bovanenkovo – Ukhta – Gryazovets (Red) The No the Co ido : Ya al-Europe via Belarus, Gyrazovets-Vyborg, and Nord Stream (Blue) Gryazovets-Pochinki (Purple) “outhe Co ido Weste ‘oute G ee “outhe Co ido Easte ‘oute O a ge GAZPROM MONITOR ANNUAL REVIEW - Page 89 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.19. The proposed Turkish Stream pipeline route Source: Gazprom, 2017. Layout of the Turkish Stream pipeline route. Available at: http://www.gazprom.com/about/production/projects/pipelines/turk-stream/ GAZPROM MONITOR ANNUAL REVIEW - Page 90 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.20. The proposed Turkish Stream, Poseidon, and TANAP-TAP pipeline routes Autho s o ok Original map sourced from IEA Gas Trade Flows in Europe (https://www.iea.org/gtf/#) GAZPROM MONITOR ANNUAL REVIEW - Page 91 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.21. Natural gas supplies to Ukraine, 2008-2016 (billion cubic metres) Source: Naftogaz, 2017. Natural gas supplies to Ukraine (bcm) Available at: http://naftogaz-europe.com/article/en/NaturalGasSuppliestoUkraine GAZPROM MONITOR ANNUAL REVIEW - Page 92 of 96 EGF Gazprom Monitor www.gpf-europe.com Fig.22. Estimated contractual gas price in the Gazprom-Naftogaz contract, compared with the 9-month rolling average price of Brent crude oil and the price of Russian gas at the German border 600.00 120.00 500.00 100.00 400.00 80.00 300.00 60.00 200.00 40.00 100.00 20.00 0.00 Brent Crude ($/bbl) Gas price ($/mcm) Price of gas in Gazprom-Naftogaz contract and comparative commodity prices Final gas price Discounted price BAFA Jan-17 Sep-16 May-16 Jan-16 Sep-15 May-15 Jan-15 Sep-14 May-14 Jan-14 Sep-13 May-13 Jan-13 Sep-12 May-12 Jan-12 Sep-11 May-11 Jan-11 Sep-10 May-10 Jan-10 Sep-09 May-09 Jan-09 0.00 Brent Crude Data sources: Ukrainskaya Pravda; EIA Brent crude spot prices; IMF Commodity Price Index Key: BAFA: Price of Russian gas at the German border (IMF data) Brent crude: The nine-month average price of Brent crude oil, with a one-month time lag. For example, the price of Brent crude oil in January 2009 is the average price of Brent crude from February to November 2008 (EIA data) The base price ($450 per mcm) was sourced from the Gazprom-Naftogaz contract, published by Ukrainskaya Pravda on the 22nd of January 2009 (http://www.pravda.com.ua/rus/articles/2009/01/22/4462671/) Note: Gas prices are given on the left axis and the price of Brent crude oil is given on the right axis. GAZPROM MONITOR ANNUAL REVIEW - Page 93 of 96 EGF Gazprom Monitor Fig.23. The pla ed Power of Siberia gas pipeli e fro www.gpf-europe.com ‘ussia to Chi a Source: Gazprom, 2017. Power of Siberia gas transmission system (GTS). Available at: http://www.gazprom.com/about/production/projects/pipelines/ykv/ GAZPROM MONITOR ANNUAL REVIEW - Page 94 of 96 EGF Gazprom Monitor www.gpf-europe.com About EGF The European Geopolitical Forum (EGF) was established in early 2010 by several independently minded practitioners of European geopolitics, who saw a certain vacuum in the information flow leading into the European geopolitical discussion. EGF is dedicated, therefore, towards the promotion of an objective pan-European geopolitical debate incorporating the views of wider-European opinion shapers rather than simply those from the mainstream European Union (EU) member states. EGF seeks to elaborate upon European decision makers' and other relevant stakeholders' appreciation of European geopolitics by encouraging and effectively expanding the information flow from east to west, from south to north. In order to achieve these objectives, the European Geopolitical Forum was established as an independent internet-based resource, a web-portal which aims to serve as a knowledge hub on pan-European geopolitics. EGF's strength is in its unique ability to gather a wide range of affiliated experts, the majority of whom originate from the countries in the EU's external neighbourhood, to examine and debate core issues in the wider-European geopolitical context. Exchange of positions and interactivity between east and west, south and north, is at the heart of the EGF project. Please visit our website for further information at www.gpf-europe.com. About the Author Dr Jack Sharples is a Lecturer in Energy Politics and Energy Law at the European University in St Petersburg, where he also teaches EU Politics in the Department of Political Science and Sociology. He has ee the autho of EGF s o thl Gazprom Monitor reports since May 2012. Dr Sharples received his PhD from the University of Glasgow, UK, having written his thesis on the political economy of state-business relations in the Russian gas sector. His doctoral thesis analysed the relationship between Gazprom and the Russian state on the domestic Russian gas market, in transit/supply relations with Ukraine and Belarus, and in the sphere of Russian gas exports to the EU market. He also holds the qualifications of MSc (2007) and MRes (2008) in Russian and East European Studies from the University of Glasgow, and BA in Politics from the University of York, UK (2005). Dr Sharples has published articles and book chapters on Energy transitions in carbon-producing countries: Russia (2016), The problem of cross-border gas pipeline interconnections in Baltic, Central, and South-Eastern Europe (2016), The importance of gas storage facilities in the European gas and power markets (2016), The shifting geopolitics of Russia s gas exports (2016), Russian gas supplies to Europe: the likelihood, and potential impact, of an interruption in gas transit via Ukraine (2016), Russian approaches to energy security and climate change (2013), and The role of Russia in European energy security (2012). Two new chapters, йurope s largest atural gas produ er i a era of li ate ha ge: Gazpro and Political economy of energy security in Eastern Europe: Russia, Ukraine, and the EU are due for publication in 2017. He was previously a Visiting Researcher at the European University of St Petersburg (2009-10), the Brussels School of International Studies (2010), and the Institute of Europe (Russian Academy of Sciences), Moscow (2011). Dr Sharples' current research interests include: EU-Russia energy relations; Russian foreign and domestic energy policy; Energy security; The relationship between energy security and climate change; EU Politics. He can be reached by e-mail at jack.sharples@gpf-europe.com / jsharples@eu.spb.ru His personal website is available at: https://eu-spb.academia.edu/JackSharples Disclaimer The information presented in this report is believed to be correct at the time of publication. Please note that the contents of the report are based on materials gathered in good faith from both primary and secondary sources, the accuracy of which we are not always in a position to guarantee. EGF does not accept any liability for subsequent actions taken by third parties based on any of the information provided in our reports, if such information may subsequently be proven to be inaccurate.

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Gazprom Monitor Annual Review 2016

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