Russia cuts down talk of gas re-negotiations with Ukraine

Echoing the sentiments of Ukraine’s President Yushchenko, Russian ambassador Viktor Chernomyrdin decried the suggestions from Yulia Tymoshenko and Oleg Dubina on readjusting the natural gas deal between Gazprom and Ukraine:

“To scare by saying ‘you need to, we need to’ — that is the last thing to do, that doesn’t come from large intelligence. It comes from ignorance and misunderstanding. I am against hearing this nonsense (белиберду), when at such a level people begin to speak and conduct arguments, only for harm. To raise the cost of transit — it will only again raise the cost of gas. Do they want that? They will get it.”

Alexander Medvedev, Gazprom’s deputy CEO and head of Gazprom Export, was similarly blunt:

Russia Today: The new Ukrainian Prime Minister says she will re-negotiate the Ukraine-Gazprom agreement for 2008. Can she do this?

Alexander Medvedev: No, legally not.

A divisive situation surrounding NATO membership has taken some attention away from the gas issue within Ukraine’s political sphere, but it will likely resurface and be a key topic during Yushchenko’s trip to Moscow next month (despite his stance in agreement with Gazprom on not reopening negotiations).

Tymoshenko, facing criticism for her involvement in the NATO affair, can continue to harp on the gas issue to help boost her popularity. In addition, she may angle the publicity garnered from the transit fee discussions as leverage in the removal of middleman RosUkrEnergo. That is, she may eventually drop any effort to significantly raise transit tariffs for a concession from Gazprom on direct sales between state energy firms. She would still be able to claim a significant win, while Gazprom would be relatively unaffected and come away with a minor victory of its own (that is, keeping transit levels at essentially their current rates).

Meanwhile, as expected, Naftogaz and its major subsidiaries are to undergo a government-led audit of its activities for 2007 according to a recently-passed Cabinet of Ministers decree. In addition, the National Committee for Regulation of Energy (NKRE) will re-examine the granting of a license to Naftogaz for selling gas at unregulated prices (that is, to industrial users at non-subsidized rates).

In December the committee blocked Naftogaz’s bid for a license, citing its significant shareholdings in UkrGazEnergo, Ukrgazdoycha, Ukrnafta and Chermorneftegaz that together sold nearly 24 billion cubic meters of gas on the unregulated market in the first 10 months of 2007. According to the regulations, licenses can only be granted to companies who occupy less than 35% of the market; the combined market position of those four is significantly higher. However, following the recent cut in UkrGazEnergo’s quota, Naftogaz is seeking a re-evaluation. The ability of Naftogaz to sell gas to industrial customers is one of the key points in Dubina’s (and Tymoshenko’s) plans for the revitalization of the national energy company.

More on changes in the oil sphere — including moves by Kolomoisky and a Kremenchuk update — next time.

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More on Ukraine’s gas transit tariff issue

Yulia Tymoshenko has fallen ill, reportedly with a temperature of around 101 degrees, and has canceled her Moscow meeting with Russian PM Viktor Zubov. (NSDC secretary Raisa Bohatyrynova will be going instead.) This likely suits Ukrainian president Viktor Yushchenko well, as he was miffed that her visit would directly proceed his own trip, scheduled for February 12th. Instead, Tymoshenko will likely travel to Moscow a week or two following Yushchenko’s visit. Gas issues are still expected to be a major topic of conversation for both leaders, who could use these next couple weeks to work out a common stance to present Russia.

Topping the list of differences between president and prime minister is the idea of increasing the transit cost charged to Gazrpom for natural gas traveling through Ukraine to Europe. Tymoshenko, and her loyal head at Naftogaz Oleg Dubina, have suggested raising the rate to $9.32 per thousand cubic meters (mcm) per 100 km, which is a steep increase from the current $1.70 charged.

Yushchenko has said that such an increase would be foolhardy and lead to a corresponding jump in the cost of gas charged to Ukraine. He called for the subject to “not even be discussed,” in a reference to the growing movement — stoked by Tymoshenko — for the price jump.

“While we are tied to Turkmen gas, the Ukrainian [gas] transit politics is special. Because the transit of 55 billion cubic meters (bcm) of gas from Turkmenistan to Ukraine along the distance of 2,500 km, that’s roughly the same cost of transit that Ukraine has for 127 bcm of Russian gas along the distance of 1,100 km of Ukrainian territory.”

He is worried that boosting the charge to Gazprom will in turn raise the transit price for Central Asian gas flowing through Russian territory to Ukraine — a cost that will get passed down to Ukrainian consumers.

Alla Yeremenko at Mirror Weekly draws issue with this characterization (the rest of the article is well worth a read, as well):

Nevertheless, Gazprom didn’t forget about its well known arguments. They say that if Ukraine increases the transit tariff on Russian gas, then they will increase the transit tariff on Asian gas and the price of their gas supplied to Ukraine.

It is hard to understand why V. Yushchenko still believes that Turkmenistan or other Asian gas is supplied to Ukraine. It has always been advantageous for Gazprom to intimidate Ukraine by saying that if we increase the transit tariff on Russian gas, then Gazprom will answer by increasing the transit tariff on Asian gas supplied to Ukraine. But there is no Asian gas in Ukraine! Even when Ukraine had direct contracts with Turkmenistan, gas was supplied according to a so-called substitution plan. There is no need for additional gas transportation for thousands of kilometers. Ukraine is buying gas at the Ukrainian-Russian border. Thus, the blackmail of a likewise increase in the transit tariff from the Russian side is a myth.

I have a post in the works relating to the Central Asian vs. Russian gas issue that I hope to have up by tomorrow. In the meantime, this serves as another example or how the system is rife with terms and agreements that say one thing but are understood to be another. Nonetheless, as long as Ukraine is saving money by buying “Central Asian” gas, it can’t pull out this argument as a defense for increases in tariff levels.

If Ukraine can’t break back into direct gas purchases from Central Asian producers, as Dubina has been attempting to do with Uzbekistan, than Ukraine may decide to drop the charade an agree to Russian prices. Last year, Gazprom apparently sold Russian gas to Ukraine for $230 per mcm, while this year Ukraine (that is, RUE at the border of Ukraine) is being charged $315 per mcm for “Russian” (vs. Central Asian) gas. The latest from Gazprom suggests that the removal of a middleman will result in the “European” price of $350 per mcm, significantly higher than the $179.50 currently charged to Ukraine.

Meanwhile, in response to the calls for a transit tariff of $9.32, Gazprom has bluntly stated that by around 2013, Russia will have the ability to drop transit levels through Ukraine by 75%, from 110 to 27 billion cubic meters per year.

This assertion is enabled by Gazprom’s growing confidence in the South Stream pipeline project, following agreements with Italy, Bulgaria, and just yesterday, Serbia. The combination of 30 bcm from South Stream with the 27 bcm from the initial pipe of Nordstream represents about half of the 110 bcm capacity of Ukraine’s transit system. Adding in a second Yamal-Europe pipe at around 33 bcm–a project that had been shelved due to progress with Nordstream–would account for the remaining difference cited by Gazprom. (A second 27 bcm line in Norstream would accomplish much the same goal, but more expensively.)

As LEvko notes, Gazprom’s production numbers are not rising fast enough to compensate for its proposed increases in export capabilities. This could potentially leave Ukraine’s pipes at well below capacity, particularly if Naftogaz decides to boost its transit tariff far above that charged by competing routes.

Following a large response from political and media outlets surrounding the $9.32 figure, Yuriy Vitrenko, a key analyst who contributed to its formation, wrote an extensive article (in English) explaining its origin including the formula used to derive it:

Transit tariff = (corrected fixed expenses + depreciation + capital value + transit rent + fuel gas costs) / (transit volume x average transit distance / 100)

where depreciation = value of GTS [gas transportation system] / depreciation term;

capital value = (value of GTS + value of land) x weighted average capital value rate.

In response to a major criticism of the figure–that it is leaps and bounds above European rates–the author stresses a difference in the capital value of Ukraine’s gas transportation system (GTS):

Capital value is derived by multiplying the sum of the average (past and current) GTS value and land value by the required weighted capital profitability before taxation.
…
The only principle of defining the transit tariffs used in Europe is to cover all feasible costs, first of all capital costs, of a certain operator providing transit.
…
It is obvious that according to these European principals, the Ukrainian gas transit rate should be much higher than European ones since in Ukraine one of the key factors – the capital value rate – is much higher than in Europe.

That is, the value of Ukraine’s GTS and the land it runs on is figured to be significantly higher than other European pipelines, accounting for high price.

The article contains a chart (only in Russian) showing a sampling of various European prices (with information coming from the ERGEG Gas Tariffs Report [.pdf] of July 2007) showing that the $9.32 price is in fact within the bounds of other tariffs charged.

Despite a range of profiles used in the analysis (it is unclear which profile the Mirror Weekly article used, since the numbers listed don’t exactly match up), none of them approach the scope and size (i.e. capacity, load volumes and distance) of Ukraine’s transmission system. The high-volume nature of the system makes comparisons to the smaller-scale European networks less analogous. Also, the report itself warns against using its findings too broadly:

The number of TSO’s [transmission system operator] which have been included in the comparison is limited (only 6). This means, for example, that the comparisons in this report with respect to the European average are only of limited value. The relative position of TSO’s may change when more TSO’s are included in the comparison. (p. 44)

A 2006 report by the Energy Charter lists some tariffs that can be used for further comparison, illustrating why the $9.32 price drew such surprise from analysts:

• Belarus – 0.75 $/1000m3/100 km for Ukrainian transit
  – 0.46 $/1000m3 /100 km on the Yamal line transit
• Bulgaria – 1.66 $/1000m3/100 km
• Czech Republic – 2.9 $/1000m3/100 km
• Poland – 2.74 $/1000m3/100 km in 2004 (falling to 1.00 by 2016)
• Russia – 0.71 $/ 1000m3/100 km
• Ukraine – 1.09 $/1000m3/100 km [this is the 2006 figure, raised to $1.60 in 2007 and currently set at $1.70]
• Interconnector – 2.12 $/1000m3/100 km

Granted, these are only the tariffs listed for the distance-based commodity charge pipelines, as opposed the distance-based capacity charges typically applied within Western Europe transmission systems (listed between €0.18 and €0.74 /m3/hr/km/a). However, the report roughly converts the two systems into comparable terms and displays them in the following chart (from p. 65, click for larger version):

This is using the $1.09 figure for Ukraine. Adjusting it for an increase to last years figure ($1.60) boosts Ukraine’s tariff to 41 (i.e. just below Bulgaria) according to Simon Pirani in his Oxford Institute for Energy Studies June 2007 report, Ukraine’s Gas Sector (.pdf). Adding an additional $0.10 for this year would presumably further raise it slightly, but not significantly.

I’ve been working on parsing these various documents, but lack some of the technical experience to fully grasp their message. At this point, though, it’s still difficult for me to accept that Ukraine would be justified in charging $9.32 for a transit tariff. If anyone would like to disagree with me, though, please feel free to add your own comments and interpretations.

More later.

South Stream reflections

A colleague asked for my thoughts on Gazprom’s $15 billion South Stream project, which includes a 31 bcm/year pipeline across the Black Sea into Bulgaria, where it would branch to serve Italy and Southern Europe as well as Central Europe. Here are my off-the-cuff reactions:

Gazprom did pretty well on the Blue Stream line, completing it in 4 years (a bit longer than expected, and over budget, but not too badly, I think). That was a key catalyst in drumming up support for the Nordstream line, the experience in undersea construction hopefully translating to the Baltic. But Gazprom is facing more delays and cost overages there, despite an arguable more secure end result (fulfilling rising German demand while tapping into the extensive Northern European gas network more directly than before). 2013 seems reasonable for a timeline at this point for South Stream though my bet would be actual full operation by 2014, but who knows at this point –still lots to work out. But reaching the Bulgaria and ENI deals is pretty good progress.

The Black Sea is still within Russia’s sphere, more so than the Baltic / North Sea, so Gazprom won’t be facing the same protests regarding the use of national sea space that are slowing the Nordstream project. Plus, it has fairly good relations with the countries on the other side of the sea. Putin (and Medvedev) just nailed down the Bulgarian support, though they had to sacrifice the 1% they are used to while negotiating joint ownership of the transport pipes (Gazprom would of course prefer to have 51% control, rather than just 50%, but no luck with Sofia). Their close relationship to Serbia will be key, as routing the pipeline through Serbian territory is both a bargaining stick in Gazprom’s bid for Serbia’s NIS and an opportunity to keep the path of the pipe in a closely allied — and dependent — country.

Gazprom also has a very solid relationship with ENI, both from working together on the Blue Stream project, and through later negotiations. ENI’s head Paolo Scaroni is close with Gazprom management, and is very willing to work with the company. Italy is a huge gas consumer, and Gazprom is willing to edge into the market dominated by Algerian / North African supplies. Italy doesn’t mind because diversification is one of its goals, and unlike Germany and other Northern European countries, it isn’t too heavily reliant on Russian gas yet. And because Italy lacks the nuclear industry of France, Germany and England, it feels more pressure to make good with gas suppliers.

That was one of the issues with Blue Stream — a secure source of demand. Turkey backed down from its original volumes, due to an economic downturn that depressed demand. Nowadays, Turkey is feeling a bit of a pinch from ripples in Central Asian / Iranian supplies, and its economy has developed enough to create a sufficient demand to pretty much fill the pipeline. But Gazprom isn’t expecting that problem with Italy / Southern Europe, and South Stream likely means the end to talks of a laying another pipe along the Blue Stream route. I think that confidence is why Gazprom is pushing for a 30 bcm line, much more ambitious than the Blue Stream, and bigger than the first
line of the Nordstream.

I was talking with someone earlier who asked if I thought that the push for the South Stream, along with the big investment into the Nordstream, is likely to deter Gazprom’s desire to take control of Ukraine’s transit system. While I think that it may very well dampen some of Gazprom’s perceived need (adding over 50 bcm — 80, with Nordstream’s second line — will do that), there’s also a less
tangible desire behind Gazprom’s wish for control over the export lines (and storage sites). Besides making them feel more secure about their exports, Gazprom still feels that the pipelines are “theirs,” since they built them back in the day, and Ukraine shouldn’t deserve them. Maybe not as extreme as that, in reality, but a bit of that sentiment exists, I bet.

On that topic, I really wouldn’t be surprised if there is eventually (in 5 years) a consortium that brings Gazprom into some sort of minority position (25% maybe) in a managing entity for the export lines (a la Gazprom’s deal with Total at Shtokman). Perhaps coinciding with Russia, under European pressure, finally ratifying the Energy Charter, and the further liberalization of Russia’s (and Ukraine’s) domestic gas market. But I don’t want to get too optimistic…

Gas issue escalating between Ukraine and Gazprom amid push for changes by Tymoshenko

A week before Ukraine’s Prime Minister Yulia Tymoshenko travels to Moscow to meet with her Russian counterpart, talks are being held between top energy officials in Ukraine and Gazprom over potential changes to their recently-agreed upon natural gas deal. Tymoshenko has already proposed reform in the domestic gas market and is now pursuing the removal of the middlemen that operate between Ukraine’s Naftogaz and Russia’s Gazprom.

While there appears to be some potential support for this move within Gazprom’s establishment, it would likely mean an increase in gas price for Ukraine from the $179.50 per thousand cubic meters (mcm) currently agreed upon to a figure at least $50 more expensive, and potentially up to around $315 per mcm (versus $130 in 2007). Ukraine has countered by suggesting raising the transit tariff Gazprom pays for piping around 115 billion cubic meters of gas per year westward through Ukrainian territory. Gazprom is currently charged $1.70 per thousand cubic meters per hundred kilometers while the proposed rate is $9.32 — over 5 times higher. (This price originated with a recent article in the respected Mirror Weekly based on input from experts. However, it is far above any tariff charged elsewhere; I sent an inquiry to the publication asking for clarification and greater background on its source, but am still awaiting a response.)

These drastic price differences — both for the cost of gas and for its transit — have sparked fears of a contentious round of negotiations between the two sides, hearkening back to the 2005-2006 pricing dispute that led to brief dips in gas pressure to Europe. Thankfully, this time around there exists a contract that ensures adequate deliveries, so a gas shutoff is much less likely to occur. (Also, both sides probably learned their lesson from the storm of negative reaction from Europe that ended up damaging both the supplier’s and transitor’s reputations.)

However, a gas shortage from Central Asian suppliers has forced RosUkrEnergo (RUE), the currently in-place trader that coordinates the import of gas to Ukraine, to rely on more expensive Russian gas to supplement Ukraine’s need. Russia is charging $314.70 per mcm for these supplies; with deliveries of 740 million cubic meters so far, that totals to $233 million, which is about $100 million more than expected based on the stated sale price for gas provided by RUE.

Konstantin Chuichenko, executive director of RUE and member of Gazprom’s board (and classmate of chairman Dimitry Medvedev at law school), stated that UkrGazEnergo (UGE), the 50/50 joint venture between RUE and Naftogaz that coordinates much of Ukraine’s internal gas market, owes RUE $830 million. It is unclear if the unexpected cost increase facing RUE got passed down to UGE and is included in that figure, or if that is debt from past operations alone. (Update: UGE says not to worry, it will pay off the debt — accumulated through stocking up on extra gas for next year’s heating season already — soon.) One would expect that RUE would be the company stuck with the overage, given that the $179.50 price charged by RUE to Ukraine is apparently the only figure enumerated in the contract — the costs of the supplies of gas from some Central Asian countries had not yet been nailed down when the agreement was reached. However, the contract has not been released to the public so it is unclear.

Also, RUE typically no longer buys Russian gas to supply Ukraine, instead relying solely on Central Asian (principally Turkmen) volumes. Last year, RUE only very rarely was forced to supplement supplies with Russian gas, which is key to the intermediary’s profit margin, given the large discrepancy between Russian and Central Asian gas prices. In 2007, Gazprom was charging RUE $230 for Russian gas, making it unreasonable for the trader to rely on it to supply Ukraine.

These negotiations come after Tymoshenko pushed for a shakeup in Ukraine’s internal gas market by severely limiting the role of UGE and hoping to eventually remove RUE completely. To help her in this politically difficult process, she recently nominated Vitaliy Gaiduk to be her vice premier for fuel and energy. Gaiduk is from Dnipopetrovsk and is one of the heads of the powerful Industrial Union of Donbas (IUD). Oleg Dubina, the newly-appointed head of Naftogaz, is also connected to IUD, and the two are allies. Along with Tymoshenko, the three of them have extensive experience in Ukraine’s energy market, particularly in the gas sphere.

They appear to be drawing on that experience by re-emphasizing the quota structure that dominated the gas market for the mid- to late-1990s. A government commission allocates quotas to trading firms on the amount of gas they are allowed to sell to unregulated (i.e. private) customers. UkrGazEnergo, however, was given an exceedingly large quota when it entered the market two years ago, and has since dominated the sale of gas to the most lucrative consumers — the factories and chemical plants. State-owned Naftogaz, meanwhile, is left to provide gas to the regulated (that is, subsidized) communal heating and generating market. Due to problems in collecting payment and depressed margins, Naftogaz is faced with a difficult financial situation. (However, recently-surfaced financial results for the first 10 months of 2007 show Naftogaz with UAH 1.46 billion — about $29 million — in profits. The 2006 results have yet to be released, though, which precludes a complete financial analysis.)

However, Tymoshenko has cut the quota of UkrGazEnergo from 32 bcm to just over 5. The idea is to then force UGE to resell its gas to other firms (including Naftogaz) and open up the market. Tymoshenko herself flourished in a similar situation, as her gas trading company was awarded a lucrative quota allotment in the 90s. But the scheme was rife with corruption and led to a series of quarrels, before Naftogaz entered the scene and attempted to more closely regulate the market and the importation of gas. We’ll see if Tymoshenko’s experience will help her create a better situation this time around…

(P.S. LEvko has more coverage on Tymoshenko’s gas sphere moves.)

Kremenchuk expects lowered production through Q1

Ukrtatnafta reported expectations of processing nearly 1 million tons of oil in the first quarter of 2008, about 2/3 of production levels the refinery was running at before direct crude supplies from Tatneft were shut off in October of 2007. The firm plans to buy 510,000 tons of oil on Ukraine’s domestic market and 360,000 of imported oil, presumably from Russia. It will also add 60,000 tons of vacuum gas oil.

The 2007 results for Ukrtatnafta, also announced, had production levels down 10% to 5.6 million tons. The company blames this decline on “lessened supplies of imported oil,” but stresses new gains in the efficiency of the plant’s refining process that helped offset this drop. The company’s release also praised Pavel Ovcharenko’s leadership:

“[He] quickly carried out the restoration of [Ukrtatnafta’s] financial health…break[ing] a chain of unprofitable months. Such rapid movement depended on timely and effective leadership decision, including the cancellation of intermediaries in the sphere of the sale of oil products and a switch to direct contracts with company-owners in the filling-station family and with large industrial enterprises.”

Meanwhile, a source within the company has suggested that Ukrtatnafta’s financial situation — perhaps not as rosy as implied by the press release — could be strengthened by bumping up wholesale prices of gasoline. The retail price (presumably at the pumps of Ukrtatnafta’s expansive gas station network) would remain the same, though. This would squeeze profits out of the filling station division in order to provide the refinery with more cash for oil purchases. However, money seems less a problem than finding a consistant crude supplier.

So far, Tatneft — Ukrtatnafta’s disgruntled minority owner and principal oil supplier — appears to be doing well in limiting supplies of Russian oil following the halting of its own pipeline crude deliveries in response to Ovcharenko’s ascension, which replaced Tatneft-friendly Sergei Glushko. Glushko’s hearings on possible criminal corruption charges are presumably continuing in Kyiv, but I have not been able to get much information regarding them.

While domestic supplies have helped pick up the slack caused by Tatneft’s actions, this has left two smaller Ukrainian refineries without crude to process. These two refineries are linked to the Ukrainian business conglomerate Privat, which allegedly orchastrated Ovcharenko’s leadership move at Ukrtatnafta and is the major player in Ukraine’s oil market. Privat is now looking elsewhere for crude supplies, but has been stymied in picking up Russian crude due to pressure from Tatneft on its fellow Russian producers and oil traders.

Tatneft had earlier threatened Rixo International over its role in providing the Kremenchuk refinery with crude supplies (Tatneft apparently saw Rixo as an easier target to approach than the Putin-connected trader Gunvor). I contacted Rixo today to try to get an update and response from them, but was told everything was “p and c” (private and confidential) and would not even confirm receiving a communication from Tatneft.

Meanwhile, Ukrtatnafta has moved its company representation headquarters in Kyiv, just blocks away from the major national governmental buildings. A fitting metaphor, due to the alleged relationship between the forces behind the recent management shift and Ukraine’s new Yulia Tymoshenko-led government.

Update (1/16/04): The two smaller refineries left without a crude source, Galichina and Neftekhimik Prikarpatia, have sent a letter to Ukraine’s President, Prime Minister, and the head of Naftogaz asking for a decision on the future use of the Odessa-Brody (OB) oil pipeline. The pipeline is currently sending Russian oil south to Odessa, but was instead meant to ship oil tankered into the Black Sea port north, with a future extension bringing the supplies into the heart of Europe or the North Sea. This would alleviate congestion in the Bosphorus while providing a potential non-Russian route for Caspian oil. The two refineries also hope to tap into the flow of Caspian, with expectations of processing at least 5 million tons of crude from the pipeline per year, if it is reversed.

Kazakhstan’s President recently floated the idea of building a canal from the Caspian to the Black seas. Opening this shipping lane — rather than having to rely on pipelines running through the south Caucasus — could potentially ensure more reliable shipments for the OB pipeline. The previous Yanukovich-led government had cited questions about sufficient supply in its decision to direct the flow southward. While the government has allegedly received about $20 million in profits from the current use of the pipeline by TNK-BP, proponents of switching to shipping Caspian oil northwards assert that more money is available. Regardless of the (relatively far-fetched) canal, Ukraine has apparently been assured of greater volumes of pipeline-fed Caspian oil should the government decide on switching the direction of the flow.

Privat, which controls the Galichina and Neftekhimik Prikarpatia refineries, also has a large presence in the Odessa oil port, particularly with the services company Sintez. As such, it may view increased oil tanker shipments into Odessa as a further source of profit, beyond the refining work at its two plants enabled by the flows of Caspian crude.

Financially-strapped Naftogaz misses deadline, but Ukraine’s just-passed budget includes $2.4 billion lifeline

January 1st passed and Naftogaz apparently was not able to promulgate its 2006 IFRS report, a key provision in its $500 million 2009 Eurobond issue. Failing to do so now pushes Naftogaz into a technical default, which may lead to creditors demanding repayments of over $2 billion in loans. This, in turn, would surely bankrupt the troubled national energy company, underscoring recent comments by newly-elected Prime Minister Yulia Tymoshenko on the financial fragility of Naftogaz.

Oleg Dubina, recently named head of Naftogaz, met with Tymoshenko after the 1st and outlined many of his concerns, indicating that the firm had lost about UAH 2.5 billion in 2006 and UAH 5 billion in 2007 (about $500 million and $1 billion, respectively). Alarmingly, Dubina also said that Ukraine’s gas storage facilities, which are typically injected with extra gas during the fall in order to provide consistent service during the peak heating season, are dramatically low on supplies. This assertion — that there exists now only 617 million cubic meters of gas in state storage facilities — seems hard to believe given the roughly 20 billion cubic meters allegedly in place by the end of the fall. It appears that the uncertainty instead stems from questions over just who controls the gas that’s there, a possible repercussion of the confusing and unexpected gas storage / repayment issue that flared up between Gazprom, Naftogaz and RosUkrEnergo back in October. Also at issue, the storage sites have allegedly been leased out on 25-year terms at below “market” values, though this development originally surfaced during the previous round of gas re-negotiations (in late 2006).

Ukraine’s substantial storage capabilities are one of its overlooked assets, compared to the facilities’ more visible cousin, the high-pressure gas pipelines running from Russia to Europe across Ukrainian territory. However, if a deal more in line with European prices could be re-negotiated with the companies currently using the facilities (primarily Gazprom and its associates), this would create a well-needed additional revenue stream.

While Tymoshenko has suggested granting tax breaks to Naftogaz as it attempts to weather these financial difficulties (despite an actual tax burden increase for the firm, according to the new budget), the company will continue to face problems as it is forced to supply much of its gas to customers at small or negative margins. Tymoshenko has called for the creation of a commission to investigate the circumstances behind the large debts facing the company. Set to convene on the 9th and report its findings at the end of the month, the commission has its work cut out for it.

If the commission can discover any smoking guns associated with the leeching of profits from Naftogaz — besides general mismanagement and a near-impossible economic situation — then the firm may have a better chance at eventually reaching financial viability. The specter of bankruptcy for the company tasked with keeping Ukraine’s population warm this winter and power its industrial sector is rather unsettling.

However, despite the failure to publish its 2006 report, Naftogaz’s creditors have apparently not yet called in their debts. While partly this may be a result of struggles in communication between the western lending firms and a Naftogaz that, along with the rest of the country, is essentially shut down for the New Years and Orthodox Christmas holiday season, it may also stem from a meeting two major creditors had with Ukraine’s new government a couple weeks ago. They came away from talks with Tymoshenko assured that the government would offer a sovereign guarantee on the debt repayment. Sure enough, a clause in the recently-passed 2008 government budget provides for up to $2.4 billion in state funds in order to keep Naftogaz afloat.

This assurance — along with other personal promises made during the meeting — appear to be enough to keep the Eurobond holders from initiating a run on Naftogaz for now. The 2006 IFRS report should be near completion — one of the last hurdles was apparently the passing of Naftogaz’s deficit-free operating budget for 2008, which recently came through. With any luck, the report will be published soon, which will further calm down the firm’s creditors.

Meanwhile, Dubina’s attempts to reach a direct deal with Uzbekistan on supplies of natural gas now face a significant obstacle, as the Central Asian country inked a deal with Gazprom selling much of its export gas production to Russia. While prices (and exact volumes) were not disclosed, the cost offered by Gazprom is said to be in the level of other nearby countries, including Turkmenistan and Kazakhstan, and likely amounts to between $150 and $170 per thousand cubic meters. Dubina had allegedly offered $180 for Uzbek gas (likely between 5 and 10 billion cubic meters), understanding that transit costs through Russia would bump the price to about $220 at the Ukrainian border. This is higher than the $179.50 charged by RosUkrEnergo, but Dubina planned to re-export some of the Uzbek gas to the rest of Europe to make up the difference.

Now, however, this plan appears to face difficulties, as very little gas (maybe around 3 bcm, maybe none) will be left over after Uzbekistan supplies Gazprom and its own domestic consumption. Dubina may attempt to keep pushing, however, and try to at least establish a toehold for Naftogaz to re-enter direct gas negotiations with Central Asia. This could be a step — along with a conclusive governmental investigation in Naftogaz and associated changes, increased tariff collections from Ukraine’s gas consumers, and gradually rising gas costs for the country’s residential customers (Note: I’m not even going to get into the problems facing the domestic production sector.) — to normalizing an often contentious and flawed natural gas industry.