Ukrgazenergo on the ropes, but gas intermediaries in Ukraine aren’t yet TKO’d

(2/28/08) – Update on my attempts to talk with Ukrgazenergo appended at the end of the post…

Please excuse the metaphors, but they are in honor of Vladimir Klitchko’s recent boxing victory (for which he got hearty congratulations from Tymoshenko and Yushchenko while unifying three major heavyweight belts). Meanwhile, in the gas sphere…

For weeks the fate of natural gas trader Ukrgazenergo has looked pessimistic. Earlier this month, Ukrainian Prime Minister Yulia Tymoshenko’s government had called for investigations into the legality of the company’s founding while she vilified its management as “energy terrorists.” One Ukrgazenergo employee said that at this point the firm’s fate rested “with God.”

Now Tymoshenko is working at helping God decide Ukrgazenergo’s fate, instructing government-connected consumers to not buy gas from the trader and for the customs service to not clear imported gas meant for Ukrgazenergo. Tymoshenko expects to have Ukrgazenergo “removed from the market” by the beginning of April. April 1st is also the deadline imposed by Gazprom for reaching an agreement on the new supply scheme, and these two actions are complementary in Tymoshenko’s eyes.

However, at one point the draft agreement between Gazprom and Naftogaz on the new makeup of the bilateral (plus Central Asia) gas scheme kept Ukrgazenergo essentially in place. Gazprom would simply buy out the shares of RosUkrEnergo to bring its holding up to 50%, on par with Naftogaz and in line with the agreement reached between presidents Viktor Yushchenko and Vladimir Putin. Statements from Tymoshenko’s apparatus, however, conflict with this notion and instead assert that no such intermediary is needed within Ukraine’s internal market. They cite some of the same arguments that I outlined earlier against the expanded role of Ukrgazenergo’s successor, particularly in light of Gazprom’s increased holding in the joint venture. (Alla Yeremenko has a piece in last week’s Mirror Weekly giving a similar run-down.)

The problem is now reconciling the arguments of Tymoshenko with Yushchenko’s stubborn adherence to the status-quo (and its associated prices, which are a known quantity and set relatively low) along with Gazprom’s ambition for increased profits. Uncertainty over the future composition has led to questions surrounding debts and volumes of gas consumed and currently in storage–no one knows if those structures that owe money will survive long enough to pay it. Tymoshenko predictably blames the intermediaries while former Fuel and Energy Minister Yuri Boyko (who is deeply involved in these same intermediaries) says that such accusations are merely misdirection meant to disguise the illegal practices (i.e. siphoning off gas) of Naftogaz.

Following prodding from Tymoshenko, Ukraine’s General Prosecutor’s Office has launched investigations into Naftogaz’s activities and is beginning with charges of theft within one of the state energy company’s subsidiaries costing the government over $35 million. Tymoshenko has stressed that the investigations should concentrate on problems arising from leadership connected to the last government. However, the head of Ukrgazenergo’s management board, Igor Voronin (an associate of Boyko and himself likely one of those targeted by Tymoshenko) sent a letter of his own to the prosecutor’s office alleging criminal behavior by the current management of Naftogaz.

Gazprom’s recently-released financial report for the first nine months of 2007 lists RosUkrEnergo with $217 million in profits on $7.4 billion of revenues (up from $5.7 billion for the same period last year). The report also lists $2.7 billion in short-term accounts receivable for Gazprom from RUE, which would correspond to the roughly $2.4 billion figure mentioned before.

Based on Gazprom’s quarterly reports, RUE bought 54.25 bcm from Gazprom during 2007 (just below its 55 bcm contract) — 16 bcm of gas in the first quarter, 11.93 bcm in the second quarter, 10.95 bcm for the third quarter and 15.45 bcm in the fourth quarter. Sources within Naftogaz and Gazprom say that Ukraine bought less than 50 bcm from RUE, leaving over 5 bcm for re-export. Alla Yeremenko suggests RUE exported about 7 bcm last year, which would lead to profits of around $1.5 billion based on the import-export margin between Ukraine and Eastern Europe.

It’s hard to believe that RUE’s profits jumped over $1.2 billion in the final quarter of 2007, as suggested when comparing the latest profit figure with the expected numbers from re-export. Instead, a good chunk of that would likely go towards RUE’s short-term debts to Gazprom, presumably as payments for gas already received. This would correspond to Gazprom’s desire to keep RUE involved in the re-export side of the scheme, ensuring that the trader has an income source to repay its debts.

I was hoping to confirm some of these figures and activities with RosUkrEnergo but was not able to get into contact with their office. Within the last week or two, it has removed the contact information for its Ukraine and Turkmen representatives from its website. I had earlier saved the information (and a google cache has it too):

Representation in Ukraine:
Ukraine, Kiev 01004, Krasnoarmeyskaya Street 1-3/2, building 6а, 3rd floor
Phone: +380 44 4952222
Fax: +380 44 4593866
Nikolai Sorokin – Head of representation

Representation in Turkmenistan:
Turkmenistan, Ashgabat 744036, Business Centre of the Administration of the government body of the president of Turkmenistan Saparmurat Turkmenbashi Shayoly 124, office 102
Phone: +993 12 456970
Fax: +993 12 456965
Abdullaev Islam Adamovich – Head of representation

No one answered the Kyiv phone number so I instead went to the address, which happens to be in the swanky Arena City / Mandarin Plaza complex that is owned by RUE-big wig Dimitry Firtash. I was unable to locate an office for RosUkrEnergo, but was instead directed to the offices for UkrGazEnergo within the same structure. While I was not able to get past security, I may be able to set up a future meeting with a company representative.

Of course, given Tymoshenko’s intention to remove it from existence, I may need to hurry…

Update: I returned to the Ukrgazenergo office today with a letter summarizing my research goals, background, and some basic questions.  A security guard from the previous time was nice enough to deliver the letter for me, and upon returning from the 6th floor he told me to wait.  About 15 minutes later, a representative came down to talk with me briefly (as he was leading me out the door), essentially saying that now was “not a good time” but to come back later–that a meeting could be possible.  I told him that I’d heard about a few troubles facing the company, and promised to return later.  He was very civil (though didn’t give me a name or contact information) and seemed possibly interested in potentially being helpful (enough qualifiers there?).  We’ll see…

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Tymoshenko’s trip to Moscow still leaves gas questions

Update (2/23/08): For an idea of the tone of the relationship between Tymoshenko and Yushchenko on gas issues, check out the video Ukrainiana posted of him scolding her on the eve of her Moscow trip (I am pretty certain that is when it’s from). That doesn’t stop her from wishing him a happy birthday, though.
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Ukrainian Prime Minister Yulia Tymoshenko spent Wednesday and Thursday in Moscow visiting with President Putin, PM Viktor Zubkov, Gazprom representatives and other Russian officials. Despite significant run-up before the trip from Vice PM Alexnder Turchinov, gas was not the main topic of conversation on the first day. Instead, the talks with Putin and Zubkov centered on shared economic concerns and future cooperation between the two countries.

On Thursday, however, Tymoshenko discussed the gas issue for about 5 hours, at first with Gazprom’s president Alexei Miller, then with deputy representatives from the company, and even officials from RosUkrEnergo and Ukrgazenergo. Following the talks, she went straight to the airport and declined to give a press conference on their results. Gazprom said only that no final agreement had been reached and that talks would be continuing.

Tymoshenko did give an update on the negotiations upon landing in Kyiv, however (my emphasis and translation):

“Regarding the first quarter (of 2008), we are settling within the next few weeks the agreements and will be removing one of the intermediaries — Ukrgazenergo. [RUE will remain in place, however, until the new scheme is finalized.] …

We extended further the negotiating process in order to create a long-term contract on the purchase of Central Asian gas from Gazprom Export, the 100%-owned subsidiary of Gazprom. And we will construct the relations so that we won’t have to conclude contracts every month, like last year, and instead we will try to reach a long-term contract [25-30 years] for the first quarter of 2008 and in such a manner come into stable security for Ukraine of gas without any intermediaries and for a price that is formed on the basis of the cost of Central Asian gas.

She also commented on the debts to Gazprom facing Ukraine and their manner of repayment, saying that the matter of debts from Nov-Dec of 2007 will be resolved within the next few days.

“The first thing we did, was to settle the last months of the preceding year, tomorrow we will take corresponding resolution (постановление), and already in a few days we will settle up the natural gas debts [accrued by] the previous government.”

However, she added that “the problems created by RosUkrEnergo and Ukrgazenergo are significantly deeper than was suggested by the government,” and also involve a debt situation allegedly created by the intermediaries surrounding the return of 4 billion cubic meters (bcm) of gas:

“The debt, unfortunately, is not only measured in US dollars, already exceeding $1.5 billion, but also in certain volumes of gas from the previous period that were consumed by Ukrgazenergo and RosUkrEnergo, and were withdrawn from the balance of Ukraine, and Ukraine, besides real money [the $1.5 billion], still owes billions of cubic meters of gas which must be returned in kind.” [She later clarified the volume as about 4 bcm.]

“The scale of looting by RosUkrEnergo and Ukrgazenergo will continue to be revealed through meetings like the one we held today.”

In talks today with her Cabinet of Ministers she reiterated the fault of the intermediaries in the case of this missing gas, which is now considered Naftogaz’s debt:

“It turns out that they [the intermediaries] had managed in previous years to use gas coming this year from Central Asia. They bought gas in advance and what did they do with it? Exported it or sent it to some other unknown place,” she told ministers.
…
“Today, they have handed us an imbalance of 4 billion cubic metres, now considered debt for Naftogaz,” she said, referring to the financially troubled national oil and gas company. “They ran up huge debts and not just in terms of money.”

Tymoshenko apparently also blames the former leadership of Naftogaz for the situation, as she announced that her government will be soon send letters to Ukraine’s Prosecutor General’s Office urging a criminal investigation into officials “who chaired Naftogaz Ukrainy last year.” She alleges that individuals abused both gas and monetary resources and participated in “abuses in the system of Naftogaz, Ukrgazprom and Ukrgazenergo–all of this was absolutely illegal.” More repercussions are likely as she continues to hold meetings today.

This was Tymoshenko’s first visit to Moscow since returning to the PM position following last fall’s parliamentary elections. She had been expecting to visit about a month ago, but that trip was postponed due to an illness and, likely, pressure from Yushchenko to delay until after his own visit to the Kremlin. Before she left, Yushchenko, worried over rhetoric suggesting she will be starting the gas negotiations “from anew,” essentially warned her not to screw with the terms agreed he and Putin agreed on earlier and admonished her government for slow work on following through with the deal.

On the plane to Moscow, Tymoshenko brushed off Yushchenko’s words, instead suggesting that “the most important thing is that I am going [to Moscow] without any directives.” The presidential secretariat responded with worry (despite Yushchenko being out of the country by that point), and this tension may have led to the limited role the gas issue played in the first day of her visit.

Talks on the second day appear to follow Yushchenko’s wishes, as she acknowledged the necessity of paying off Ukraine’s gas debt (though she emphasized again that it was the fault of the last Yanukovich-led government) while apparently staying away from raising the possibility of increasing transit tariffs. She again emphasized the her long-standing desire to be free of intermediaries, but it remains unclear whether she would consider a 50/50 joint Gazprom-Naftogaz company coordinating Central Asian gas deliveries to be just as negative to the scheme as RUE.

Acceptance of the debt (and its repayment) and a toning down of rhetoric are important for securing cooperation in reaching a long-term deal that will bring stability to the scheme and aid in the Ukraine-Russia relationship. While Tymoshenko isn’t known for scaling back her fiery words, the results of this trip may yet lead positive, long-term results that will help her build the political capital to push at future issues. I am not yet ready to label her Moscow visit a failure (or “a fiasco“) solely because no break-through agreement was reached and instead negotiations are continuing. Indeed, the situation calls for protracted negotiations that are not governed by the crisis mentality of impending deadlines. This may or may not come about, but Tymoshenko appeared to make her own contributions to such a result.

Ukraine continues to probe Turkmenistan for possible gas deal

Yesterday Naftogaz-head Oleg Dubina and his colleague from the Industrial Union of Donbass visited Turkmenistan to discuss joint Ukraine-Turkmen projects with Turkmen President Kurbanguly Berdymukhamedov. As I wrote about before, Naftogaz is continuing to look into the possibility of entering into direct agreements with Central Asian gas producers rather than through a Gazprom-involved intermediary. Despite this goal, work is continuing on nailing down a new supply deal with Gazprom, as Naftogaz submitted a re-worked plan for approval from the Russian side. This draft is expected to be rejected by Gazprom, however, due to significant disagreements over some of the terms (more on this later).

The Turkmenistan trip was headlined by renewed commitments from IUD head Sergei Taruta to invest nearly $300 million in a combined rail/car bridge and an engineering/communications tunnel near Ashgabat. Notably absent from the description of the meeting, however, are any comments from Dubina or talk of energy-sphere cooperation. The IUD (with which Dubina has connections) has been successful in the past in brokering construction and barter deals with Uzbekistan in return for gas supplies, and Ukraine may now be working at strengthening the economic connections between the two countries in an effort to lobby for direct gas sales.

Worth noting–and not mentioned in the articles I read about the event–is that the head of the natural gas firm Itera, Igor Makarov, also met with Berdymukhamedov on the same day. I already wrote about the plane trip Dubina, Taruta and Makarov shared–this coordinated visit to Turkmenistan may very well have been one of the results of their conversations aboard the private jet. Makarov mentioned constructing a new 5-star hotel, investing in a chemical plant and, almost as an afterthought, “the possibility of the company’s [Itera’s] involvement in developing the rich oil and gas deposits in the Caspian Sea shelf.”

Naftogaz faces difficulties in gaining a beachhead in Turkmen gas purchases as a contract with Gazprom essentially ties up all of Turkmenistan’s gas exports for the foreseeable future. Besides that, a recently-announced deal between Turkmenistan and China further calls into doubt the availability of any excess Turkmen gas and potentially raises the price Ukraine would have to offer in order to secure them.

The deal has China buying 10 billion cubic meters (bcm) at $195 per thousand cubic meters (mcm) beginning in the 3rd quarter of 2009, before climbing to 30 bcm annually following the completion of a new pipeline that was undertaken by the Chinese last year. Analysts predict the Chinese deal will raise the price Ukraine must pay for Turkmen gas to between $220-260 per mcm for either next year or 2010, well above the average cost of $140 per mcm being charged this year. When adding transportation costs of at least $30 per mcm, this brings the new price close to that being offered by Gazprom for strictly Russian supplies ($320 per mcm).

Cooperating with Itera on new Caspian gas developments could be a way for Ukraine to lessen its dependence on Russian involvement in the gas supply scheme. However, Naftogaz presumably lacks the financial resources for any large-scale investment at this time. (There are projects in Ukraine itself–most notably, on the Black Sea shelf–that could benefit from significant investment but are currently lacking.) It would be quite interesting to know what Dubina actually discussed with Berdymukhamedov…

Choice bits from Putin’s “Annual Big Press Conference”

Russian President Vladimir Putin held his ritual mega-press conference for Russian and international press outlets last Thursday. He touched numerous issues dealing with Ukraine and energy politics, especially due to proximity of Yushchenko’s visit to the Kremlin and continued controversy over gas relations between the two countries.

Putin calls Ukraine’s steps towards NATO un-democratic since they don’t follow public opinion, dismisses Poland’s concerns over the Nordstream pipeline and a resurgent Russia, praises Yushchenko’s cooperation on the Ukrainian gas issue, believes corruption to be the most pervasive problem he’s faced as president, decries the politicization of European and Russian energy deals, scoffs at claims of his immense wealth, claims to be prepared to hold the post of PM under Medvedev, and accepts Chechnya’s 99% voter turnout–99% of whom voted for United Russia–in the last elections as a legitimate expression of yearning for “stability.”

There are also some interesting responses on the Kosovo issue, as well as plenty of fluff–it was Valentines Day, after all–that I didn’t quote.

Following the break are some choice excerpts from the transcript (my emphasis added).

Gazprom-Ukraine gas deal fallout leads to renewed pessimism from Ukrainian critics

Despite the transfer of $105 million on Thursday as the first step in paying off Ukraine’s $1 billion (at least) debt, talks between Gazprom and Naftogaz stalled and have been pushed back to this week over disagreements on the exact terms of the new deal. A draft agreement between the two firms obtained by Kommersant created a stir among Ukrainian observers over worries that little is being done to change the underlying problems and too much is being sacrificed to the Russian side.

Meanwhile, sensing discontent and potential stalling, Gazprom has set two new deadlines for the fulfillment of the major terms enumerated by last Tuesday’s Putin-Yushchenko agreement—March 14th to pay off Ukraine’s entire debt and April 1st to sign an agreement on the new structure for the gas scheme set to replace RosUkrEnergo and Ukrgazenergo.

While the original Ukrainian response to Yushchenko’s deal with Putin that removed RosUkrEnergo and its cousin Ukrgazenergo from the gas supply scheme was enthusiastic–this had been a goal of PM Yulia Tymoshenko for years–emerging details of the plan have led to growing discontent and further questions about Yushchenko’s motivations in the gas sphere and the cost to Ukraine this new deal will create.

The arguments of the critics have varying levels of importance, but in general show that Ukraine has certainly failed to solve this enduringly thorny issue:

• The new agreement does not remove the intermediaries, but only replaces them. Indeed, the working name for the new Gazprom-Naftogaz entity to replace RosUkrEnergo is RosUkrGaz AG, another Swiss-registered company. Hopefully, its new address won’t be 12 Loewelstrasse, Vienna — the same building as Centragas, Dimitry Firtash’s firm that controls half of RUE. (As documented by Global Witness, major ownership figures for EuralTransGas and its “successor” RUE shared this same building, leading to undeniable connection claims.)
• The new joint venture will give Gazprom 50% access to Ukraine’s internal market, including sales of domestically produced gas. The 50/50 Gazprom-Naftogaz company set to replace Ukrgazenergo (if it is even replaced–the current proposal has Gazprom buying out RUE’s 50% share and keeping the structure in place) will be broadened to include sales of gas produced in Ukraine. Previously, these sales–relatively unprofitable as they were, due to government-imposed price caps–had been controlled solely by Naftogaz. A bigger deal, however, is the increased direct access to Ukrainian consumers for Gazprom, from under 25% (based on 25% control of Ukrgazenergo, which supplied most–but not all–of the market) to 50%.
• Naftogaz’s share in this internal market remains the same–50%–while Ukraine only succeeded in replacing RUE’s share in the importing scheme. According to sources within RUE quoted by Kommersant, the intermediary was facing increasingly small margins in its Central Asia-Ukraine gas scheme, and was expecting to actually lose $20 million from this part of operations in 2008 due to increased costs for Kazakh gas.
• RosUkrEnergo will continue to exist and exclusively hold the right to re-export volumes of Central Asian gas to Eastern Europe. The re-export of gas to the Eastern European market allowed RUE to make its profits–last year’s margins were about $170 per thousand cubic meter (mcm) in Europe versus $2 per mcm in Ukraine. RUE is apparently going to be allowed to export between 3-8 billion cubic meters of gas per year for at least the next two years, with profits expected to be between $500 million and $1.3 billion according to a Renaissance Capital analyst. Naftogaz, on the other hand, will only be able to sell the imported gas internally in the same ratios and ownership percentages (and limitations) as before. As with the Ukrgazenergo deal, once again Naftogaz will be stuck with the unprofitable side of the gas scheme.

Indeed, it appears that RosUkrEnergo is itself indebted to Gazprom by about $2.4 billion, and Gazprom is counting on RUE being able to re-export 7 bcm this year to cover that debt, which consists of the following:

• About $1 billion in debts to Gazprom Export (the entity that sells the Central Asian gas to RUE) in the form of $350 million in overdue arrears and $600 million from the reclassification of Central Asian gas within Ukrainian storage facilities presumably stemming from last October’s gas debt deal.
• Over $550 million from restructured debts for gas delivered to Ukraine between August and November 2006.
• Nearly $380 million for 1.2 bcm of Russian gas delivered in January of this year at the cost of $314.60 per mcm.
• $450 million in credit granted to RUE by Gazprom.
• $53 million to ZMB GmbH, Gazprom’s German subsidiary.

Ukrainian Vice PM Alexander Turchinov on Friday pushed to award Naftogaz re-export rights in the place of RUE, and this appears to be one of the major sticking points in reaching the new gas scheme agreement. In addition to the re-export clause, he suggests that the deal should be in the form of an inter-governmental agreement (which could be signed during Yulia Tymoshenko’s visit to Moscow on Feb. 21st, assuming she recovers from her current illness) as opposed to a contract signed between Gazprom and Naftogaz.

Negotiations are set to continue this week between Valery Golubev and Igor Didenko, deputy heads for Gazprom and Naftogaz, respectively. As the draft agreement stands now, Naftogaz and the Ukrainian government stand little chance of resolving many of the issues that face the country’s gas scheme. Pushing for gas re-export rights would be a key step in boosting Naftogaz’s financial durability, but this promises to be a difficult proposition due to Gazprom’s interest in seeing RUE repay its own significant debts.

Addendum: Yushchenko, fresh off his deal with Putin in Moscow, is apparently frustrated with Tymoshenko’s attempts at involving herself within the gas scheme and is now looking into transferring control of Naftogaz from the Cabinet of Ministers (controlled by the Prime Minister) to the Presidential Secretariat. Some have suggested that his reticence to push for a substantial shakeup of the gas sphere stems from alleged involvement of his brother or other family members in highly-placed companies connected to the gas industry.  Yushchenko has himself suggests that Tymoshenko’s agitation has fueled discontent between Gazprom and Ukraine leading to renewed conflicts, whereas his only goal is to reach the lowest possible price and continued supplies for Ukrainian consumers.  However, in his desire to reach these ends, Yushchenko may very well be contributing to a system that deserves a more thorough overhaul–despite potential shock to the related markets.

Note: I bought a new computer, hopefully ending my string of technical difficulties that limited my posting schedule. I’m hoping to write something soon on Gazprom’s recently-released financial report for the first 9 months of 2007.

Gas shutoff averted following last-minute deal between Yushchenko and Putin that replaces RosUkrEnergo

Presidents Putin and Yushchenko reached a preliminary deal on gas issues early this evening, averting a threatened gas shutoff. The deal comes amidst a broader agreement on the future of Russian-Ukrainian relations through 2009, which likely enabled Yushchenko and Putin to employ long-term promises for the gas sphere and take into account corresponding repercussions.

Putin accepted Yushchenko’s promises to repay debts–starting this Thursday (happy Valentine’s Day…)–accrued during the final two months of 2007 totaling just over $1 billion. The fate of the alleged $500 million debt that accumulated since then wasn’t as clearly enumerated. Also key, Gazprom and Naftogaz agreed in principal to the shift towards direct sales, rather than through the intermediaries RosUkrEnergo and Ukrgazenergo. In their place will be two new Gazprom / Naftogaz joint ventures.

From Bloomberg:

Russia and Ukraine today agreed to establish two new companies to handle the gas trade, replacing RosUkrEnergo AG, the only company currently allowed to import gas into Ukraine.
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“We want our cooperation to be as transparent as possible,” Putin said.
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The two new companies will handle exports to Ukraine and distribution in the country, Miller told reporters in Moscow today.

Gazprom will own 50 percent stakes in both companies. NAK Naftogaz Ukrainy, Ukraine’s state-owned natural gas company, will hold equivalent stakes.

The current price — $179.50 — will also apparently be secured for 2008. However, Putin emphasized that any gas Gazprom provided to compensate for shortages from Central Asian supplies needs to be paid for at European levels, which could lead to a potential sticking point in the deal. (See my post from Saturday about issues surrounding the supposed debt accumulated since Jan. 1st due to such shortages.)

Deadline approaching for Gazprom-Ukraine debt settlement

Ukraine got an extension on Gazprom’s deadline for a debt repayment agreement before the gas giant shuts of the flows of Russian gas (and possibly limits Central Asian gas) to Ukraine later this evening. Ukraine’s President Yushchenko is in Moscow for last-minute talks now, even as negotiations involving Naftogaz officials and Tymoshenko’s apparatus seemed to have gotten nowhere.

Meanwhile, Gazprom is having a party.

Gazprom steps up gas rhetoric following Ukraine’s steps toward removing intermediaries

Note: Been trying to get this up for a while, but battling computer problems. I’ll be gone for a few days, so will post it relatively unfinished — please forgive typos / undeveloped thoughts.  Also, there’s an extensive article in the Zerkalo Nedely about the issue, including statements from Dubina saying that Naftogaz doesn’t have any gas in storage — presumably, he is suggesting that the gas that is there belongs instead to Ukrgazenergo, or even RUE.

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Half of Kommersant’s front page on Friday was filled by the headline “Crime and Punishment” and a menacing photo of Gazprom president Alexei Miller looking down upon the reader — not a good sign for the Ukrainian government in the continuing “gas war.” Gazprom is now threatening to shut off supplies of Russian natural gas to Ukraine on Monday Feb. 11th — a day before President Yushchenko visits Moscow –should Naftogaz not settle a $1.5 billion bill.

There are a few things to unpack about this threat:

• Gazprom would halt the flow of Russian gas to Ukraine, but allow Central Asian gas to continue into the country.
• Gazprom spokesman Sergei Kuprianov originally said that Ukraine owes Russia $1.5 billion, but even RosUkrEnergo admitted that Ukraine’s Naftogaz has no direct dealings with the Russian gas giant. Instead, the debt is likely between Naftogaz and Ukrgazenergo, which then owes RosUkrEnergo, which owes Gazprom.
• $500 million was allegedly piled up since January 1st, due largely to higher concentrations of significantly more expensive Russian gas in the mix supplied to Ukraine. $1 billion is left over from last year. About halfway through January, Ukraine was looking at an overage of about $100 million based on increased precentages of Russian gas. Extrapolating that out to today, however, doesn’t reach the $500 million figure suggested by Gazprom.
• Gazprom cited the debt as the reason for the threatened shutoff, rather than any actions by the Ukrainian government about changing the gas scheme.
• Ukrainian PM Yulia Tymoshenko assured the public and Europe that Ukraine held sufficient volumes of gas in storage to cover both domestic consumption and European demand via Ukraine’s transit system in the event of a shut-off.

Russian gas now accounts for roughly a quarter of the supplies coming into Ukraine, an above-average percentage allegedly due to lower volumes of Central Asian gas available because of a regional cold snap (Friday’s high temperature in Ashgabat: 7 C). Exactly how much of the gas “cocktail” (mixed by RosUkrEnergo) should be Russian, however, is a bit difficult to discern. One set of figures suggests 18%. However, this is based on the importation of 75 billion cubic meters (bcm) of gas, which would correspond to Ukraine’s entire consumption (not accounting for about 20 bcm in domestic production). Earlier reports put the total import figure at 62 bcm, while another source says 58 bcm. In either of these cases, likely only a few bcm would come from Russia. The pricing system agreed upon between Russian and Ukraine at the end of last year posits an average purchase price of $140 per thousand cubic meters (mcm) with a retail price at the Ukrainian border of $179.50. Given that Russia is charging $315 per mcm of gas, there is little way for RUE to make a profit relying very much on supplies from Gazprom.

However, it appears that’s what it has been doing, and it passed the price increases down the line to Ukrgazenergo. This would appear to be in violation of the contractual terms — RUE agreed to provide gas at the Russian-Ukrainian border for $179.50, accepting this to be a reasonable price based on predictions. If those predictions don’t pan out, then the trader should be left with the consequences.

RUE may be trying to compensate for the high prices by taking advantage of its re-export quotas and selling some gas to the European market (at about twice the Ukrainian price). According to Korrespondent, RUE has already used up nearly half of its re-export quota for the year:

From this volume [of 58 total bcm], 55 bcm of Central Asian gas should be supplied to consumers in Ukraine. Only after fulfilling the needs of Ukrainian consumers does RosUkrEnergo have the right to export the remaining 3 bcm of gas to the countries of Europe.

Today, RosUkrEnergo has already exported 1.494 bcm — that is, half of the yearly volumes earmarked for export.

Indeed, Ukraine has emphasized that it has not overstepped its own allotment, saying that Ukrainian consumers have bought 4.72 bcm of gas so far this year, below the 4.85 bcm of Central Asian gas that was planned according to the contract. Therefore, Ukraine argues, it should not be charged for “extra” Russian gas since the total volume is still within the “normal” bounds. Instead, it is the trader’s fault for failing to mix the gas in the contractual manner.

RUE appears to be attempting to re-export as much gas as possible, stooping to buying extra quantities of Russian gas, attempting to pass the price on to the Ukrainian side, while making profit off sales of cheaper gas to Europe. RUE may very well recognize that its days are finally numbered, and is undertaking these actions in order to make as much money as quickly as possible, without much regard to the future.

While Ukraine has been making noises of removing RUE and its subsidiary Ukrgasenergo from the gas scheme since Tymoshenko became PM, recent actions in the Ukrainian government appear to have hastened the removal process of the intermediaries.

Last week an all-day session of Ukraine’s National Security and Defense Council — President Yushchenko’s answer to PM Tymoshenko’s Cabinet of Ministers — discussed national energy company Naftogaz Ukrainy and the natural gas trade, including the use of intermediaries between Central Asian producers and Ukrainian consumers. Tymoshenko, who has long been calling for the removal of RosUkrEnergo, announced that the council had reached an agreement on the necessity of the gradual removal of these figures from the gas scheme.

“A decision was taken to move away from the services of the companies RosUkrEnergo … and other intermediaries, which are absolutely ineffective and destructive for Ukraine’s gas transport system, and to move towards direct contracts,” she told a news conference.

Talks on the matter, she said, would “involve the government and will take place gradually in order not to destabilise any of the processes, including the transport of gas across Ukraine’s territory and transit”.

Tymoshenko has apparently begun the process of investigating the legality of the decrees that established Ukrgazenergo as a key player in the gas market. She hopes to replace the trader with Naftogaz, and eventually work her way up to getting rid of RUE as well.

Naftogaz, apparently feeling out the possibility of shifting to direct Central Asian purchases, is planning on holding negotiations with Turkmenistan and Uzbekistan about providing 5 billion cubic meters (bcm). This would roughly correspond to the 5.76 bcm Naftogaz is expecting to sell to Ukrainian consumers on the unregulated market, as stipulated by the the National Committee for Regulation of Energy (NKRE).

While Gazprom essentially has a monopoly on purchasing Central Asian gas (either for re-export or for Russia’s domestic consumption), two players have key connections to the two countries being approached as suppliers.

Ukraine’s Industrial Union of Donbass (IUD) had been importing about 3 bcm of natural gas per year from Uzbekistan, apparently up until last year. This gas was used to power their steel factories, with the refined product often used as barter for the fuel. Vitaly Gaiduk, a key figure in the IUD, is in line to become Tymoshenko’s deputy PM in charge of the energy sphere (though apparently Tymoshenko’s other deputy PM Alexander Turchinov has been consolidating his power within the Cabinet of Ministers and is currently filling that role). Gaiduk is also seen to be a strong supporter of Tymoshenko.

The sale of Turkmen gas, on the other hand, had been coordinated by the trader Itera up until 2004. Since then, Itera was kicked out of the scheme by Eural Trans Gas which eventually gave way to RosUkrEnergo. The firm, registered in Florida and led by an ex-cycling champion from Turkmenistan, allegedly used some contacts within Gazprom to obtain favorable transmission rates for its trading deals. Itera eventually expanded into upstream production and is now a relatively significant independent gas producer in Russia. However, it was this expansion that apparently soiled its relationship to Gazprom, as the strategies of Alexei Miller and Dimitry Medvedev (implemented in the early 2000s) called for the return of assets that had left Gazprom’s fold–including the Central Asian trade and many of Itera’s Russian gas fields. Since then, the two firms’ relationship has been relatively sour. However, Tymoshenko apparently shares connections with Itera’s head Igor Makarov from her time at UESU (United Energy System of Ukraine)

Naftogaz’s expansion into the Turkmen and Uzbek markets makes recent news of the re-emergence of Makarov and Bakai more understandable. Makarov shared a private jet with Oleg Dubina following his talks in Moscow a couple weeks ago. Also in the plane were other Itera and Naftogaz representatives. Meanwhile, Tymoshenko apparently enlisted the help of Bakai–who now holds Russian citizenship after fleeing Ukraine due to corruption charges–in the possibility of upcoming negotiations with Moscow. Bakai sits on the board of Oleg Deripaska’s Basic Element and is apparently also deals with Itera in that regard.

Gazprom’s board candidates announced, and more computer problems

Update: Computer problems are temporarily fixed it seems, but still a rather touch-and-go situation which may cut out again soon. Also, the EDM has a piece about Kremlin-connected holdovers in the boards of state corporation. It notes Zubkov’s nomination (see below), and adds that Igor Sechin is up for chairman of Rosneft again, as well as other high-placed officials:

According to Vedomosti, presidential aide Viktor Ivanov, who chairs both Aeroflot and the Almaz-Antei arms manufacturer, will run again for the boards of those state companies; another presidential aide, Igor Shuvalov, who is chairman of Sovkomflot, Russia’s largest sea shipping company, will run again for its board; First Deputy Prime Minister Sergei Ivanov, who is chairman of the United Aircraft Building Corporation, will run for its board (as will Rostekhnologii general director Sergei Chemizov and Vneshekonombank chairman Vladimir Dmitriev); and presidential aide Sergei Prikhodko will run again for the boards of the Technical Military Armaments corporation and the Sukhoi military aircraft manufacturer.

This despite calls by Putin and Medvedev on the necessity of opening the business sector and keeping from excessive state involvement — except, of course, “strategic” sectors and firms (and profitable ones…)

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I had thought I fixed the problem with my laptop by switching out some potentially bad RAM, but the issues have resurfaced and are severely hampering the use of my computer. Until I can figure out a fix–or I buy a new computer–I likely won’t be able to post anything.

Just a quick note, Viktor Zubkov (Russia’s current PM) is included in the list of candidates for Gazprom’s board, with elections set to choose a new director (should Dimitry Medvedev ascend to the presidency, as expected) scheduled for June. While Putin had been rumored as a possible candidate, I doubted he would take the position; Zubkov seems to be a relatively safe bet though. The relationship between Zubkov and Medvedev, however, isn’t exactly clear.

Alexei Miller, current Gazprom president, has also been rumored to be preparing to step down due to health issues. While he’s likely to remain involved in the Gazprom Group (possibly at Gazprom Bank), his presence atop the company and at the negotiating table will likely be missed. Nailing down recent South Stream partnerships is a good beginning to a potential final act of key moves undertaken by Miller (with the help of Medvedev). Now that Zubkov is the favorite for chairman, my pick to replace Miller when the time comes is Alexander Medvedev, head of Gazprom Export.

Privat making moves in Ukraine’s oil sphere

Note: I started writing this on Monday but my computer crashed on Tuesday and I have been struggling to get it working again since then. I’ll follow up this post with one covering the further developments (including the reappearance of some figures from the past — Igor Makarov and Itera along with scandal-ridden Igor Bakai) in the on-going gas negotiations.

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Much attention is still focused on Ukraine’s evolving “gas war” with Gazprom (Igor Didenko walked out of negotiations over Naftogaz’s debt to UkrGazEnergo, though follow-up meetings showed progress; Yulia Tymoshenko reiterated her pledge to remove middlemen even as her counter-point Raisa Bohatyryovna is in Moscow to pass along Yushchenko’s promise of stability; gangster Semyon Mogilevich’s arrest fueled speculation on imminent shakeups, while Dimitry Firtash once again denied any connection between the two within the gas sphere), despite calls by Naftogaz to de-politicize the ongoing and oft-contentious negotiations.

Honoring Naftogaz’s request (kind of), I’ll turn to some recent developments in Ukraine’s oil sphere.

Late December 2007, Igor Kolomoisky, one of the major owners of the Privat Group, bought a 12.6% stake in British firm JKX Oil & Gas. The deal, valued at over $150 million based on stock price, makes Kolomoisky the second largest shareholder in the company behind only Alexander Zhukov. JKX’s presence in Ukraine is an 80% holding in the country’s largest private oil producer Poltava Petroleum Company (PPC). With production levels of about 800 tons of oil and 1 million cubic meters of natural gas per day, PPC trails only Ukrnafta (50%+1 owned by Naftogaz, 42% owned by Privat) in output for Ukraine.

Following the sale, Kolomoisky’s Privat partner Gennadiy Bogolyubov announced the possibility that the powerful financial group would divest from its 42% holding in Ukrnafta. Besides facing a 25% increase in oil extraction rental rates that severely limits profitability, firms with significant state ownership are also obliged to sell natural gas production to Naftogaz at the fixed rate of $53 per thousand cubic meters–well below market value. This provision, Decree 31 from the previous Yanukovich-led government, already forced out independent producer Cardinal Resources and appears to be pushing Privat into the private sector.

However, some analysts consider Privat’s statements on selling out of Ukrnafta as only a threat, as the group attempts to wrangle a better tax situation within the hydrocarbon sector from a government seen to be sympathetic to Kolomoisky. Indeed, Naftogaz today announced the possibility of raising the price for domestic (non-industrial) consumers at the end of the current heating season, recognizing the detrimental effect the depressed rate has on Ukrainian gas production sphere (which is tasked to supply the regulated market). It is unclear if these moves are related, but reform of the tax and fee structure surrounding Ukrainian hydrocarbon extraction is a key step in boosting domestic production figures, insuring adequate upkeep and attracting foreign investment.

Naftogaz and Privat are also apparently sparring over Ukrnafta’s profit allocations for 2006, with the government calling for 50% of the $480 million net profit to be distributed as dividends. The minority shareholders (including Privat), on the other hand, felt that number was too high and that more should be re-invested into production capabilities. The shareholders were set to vote on the issue in May 2007, but it was tabled until a shareholders meeting last week. However, neither Privat nor state representatives attended the meeting, leading to the absence of a quorum. The new leadership of Naftogaz apparently has to reach an agreement (.doc) on the fate of the profits, and the issue has been pushed back to a later (undetermined) meeting.

Meanwhile, Privat is making moves concerning its refineries, as well. Given Kremenchuk’s supply issues, the two smaller Privat-controlled refineries in Western Ukraine (Galichina and Neftekhimik Prikarpatia) have been forced to shut down production and undergo modernization repairs. Recently, however, the management of the refineries sent a letter to the government asking about the possibility of reversing the Odessa-Brody pipeline and sending Caspian crude north. Some would then be exported into Europe while the two refineries committed to processing 5 million tons per year. Responding to the letter, Fuel and Energy Minister Yuri Prodan instructed Ukrtransnafta to study the possibility of reversing the flow and including the two refineries in planned shipments.

Refining Caspian crude, which is a higher quality than Ukrainian or Russian varieties, would prevent Privat from having to invest in long-delayed upgrades to the Galichina and Neftekhimik Prikarpatia refineries. Newly-enacted government regulations on the quality of diesel fuel for Ukraine would have likely forced the refineries to close for repairs anyway, regardless of the availability of supply. Tapping into Caspian crude, however, would allow them to reopen without the costly improvements.

Ukraine’s President Yushchenko met with his Azeri counterpart Ilham Aliyev in Davos last week to discuss energy issues. A couple days later in a meeting with Prodan, Azerbaijan’s ambassador to Ukraine said they are willing to provide 5 million tons of Azeri crude per year should the pipeline reverse direction. However, there was talk of sending the crude (via the Druzhba pipeline) to a Czech refinery, or even building a new Azeri-sponsored plant within Ukraine.

TNK-BP has been coordinating the shipment of Russian crude southward through the line and managed to increase volumes in 2007 by 160% to 9 million tons for the year. Much of this increase was due to an agreement between Russia’s pipeline operator Transneft and Ukraine’s Ukrtransnafta to lower tariffs on Russian crude so long as the total volume exceeded 9 million tons for the year. However, this provision expired on December 31st and Transneft promptly increased tariff levels by 38 percent. While TNK-BP is working on reaching a similar deal, in all likelihood this year’s volumes will be down significantly due to the less attractive economic situation.

This should open the door for Ukraine to push through its reversal plans, presuming it can get all the players on board. The 5 million tons requested by the Privat-controlled refineries is considered to be overly ambitious for their production capabilities, and was likely meant to try to dissuade the construction of a new refinery (leading to more domestic competition) to handle the crude. While Prodan asked Ukrtansnafta to examine the scenario, it is unclear how strongly he would lobby for Privat’s interests. Privat, while perhaps not playing a central role through its refineries, would be key due to its strong position at the Odessa oil port. Of course, this is even assuming that the government decides (and manages to) actually reverse the pipeline.

In the meantime, despite the closing of its two Western Ukraine refineries, Privat maintains a strong position within Ukraine’s refined products sphere due to its alleged control over Ukrtatnafta and the Kremenchuk refinery. Indeed, the halting of production at Galichina and Neftekhimik Prikarpatia–predicted due to the change in fuel regulations–has been suggested as an impetus for Privat to take control of Kremenchug, thus ensuring a market for its domestically produced crude (via Ukrnafta) and a continued presence in the refined products sphere. While Pavel Ovcharenko ascended to the top of the company pledging to remove shadowy middlemen from Ukrtatnafta’s supply chain and resurrect the firm’s financial status, nearly all of the refinery’s products are apparently sold via Privat-controlled Optima Oil or even Ukrnafta itself.

Ukraine’s vice prime minister Alexander Turchinov has stated that the Cabinet of Ministers will work to resolve the issue for the benefit of all parties (though he is also quoted as saying “for the benefit of Tatneft”), which is at least a welcome change from the silence the conflict had been generating from the government before. There is no word on exactly how this will happen, and Tatneft and Naftogaz (the two major shareholders fighting for control, despite Privat apparently pulling the strings) didn’t respond to my requests for a comment. However, Ukrtatnafta is apparently on a list of firms drawn up by PM Yulia Tymoshenko’s office for privatization (working on confirming this), and the government may attempt to structure any future sale in a manner that would create some form of resolution.

Even as Turchinov stressed the possibility of ending the conflict, though, Yuri Prodan ensured that an underlying source of tension–also involving Privat–will continue. The Privat-controlled financial company Ukrneftegaz is in charge of managing the shareholder registers for energy firms that have significant Ukrainian state ownership–including Ukrtatnafta. Tatneft accused Ukrneftegaz of manipulating the list for Ukraine’s benefit, leading to the eventual management dispute. Ukrneftegaz has also been accused of lobbying for the interests of Privat in energy deals and using its powers to dictate shareholder meetings. Prodan recently defended Ukrneftegaz’s performance, and said the state plans on continuing to use the financial company’s services.

Given these examples, it is clear that Privat–that is, Kolomoisky and Bogolyubov–are major players in Ukraine’s energy sphere, particularly within the oil market. While the rise to power of Industrial Union of Donbass-connected officials within Yulia Tymoshenko’s government may somewhat temper this involvement (IUD is a rival business conglomerate from Donetsk), Privat is still seen to be close to various factions within the ruling coalition. While Privat recently failed at its attempt to block Rinat Akhmetov’s deal with Dneproenergo, most observers are expecting the business group to use its political connections to launch another attempt at halting the transaction and increasing its presence within Ukraine’s energy market.