Fresh gas row brewing as Ukraine threatens to cut Russian imports

By bne IntelliNews November 27, 2012

bne -

A fresh gas row between Ukraine and Russia is brewing following an announcement by Kyiv on November 26 that it may cut imports to 18bn cubic metres (cm) in 2013, while also claiming it has created a consortium to build a liquified natural gas (LNG) terminal. Moscow was quick to counter that it could levy $2bn-3bn in fines for breach of contract should Ukraine follow through with its threat to reduce imports.

Gazprom's long-term contract with Ukraine's Naftogaz contains a take-or-pay provision that applies to 80% of the contracted volume per year. That means Ukraine must pay for at least 41.6bn cm of gas this year (based on a contracted volume of 52bn cm), even if it takes less. However, Ukraine has said that, due to high prices, it's aiming to slash gas imports to just 27bn cm, possibly as early as next year. Russia's position is that the contracted volume is already fixed and that no alterations can take place within six months of the contracted delivery date.

Alternative sources

Struggling under the burden of paying for Russian imports, Kyiv has been casting about for alternative sources. The plan to cut its purchases from Gazprom will only work if it can get gas from elsewhere.

Ukraine will start to import gas from Germany through Hungary from January 1, 2013, Energy and Coal Industry Minister of Ukraine Yuriy Boiko said on November 17. This week, Kyiv also announced a deal to import gas from Azerbaijan from 2017. The government has also been actively promoting shale gas exploration and production deals at home.

On November 26, Ukraine announced it has signed a deal creating a consortium - including the US' Excelerate Energy and Spain's Gas Natural Fenosa - to build a $1.1bn LNG terminal, Ukraine's national projects agency said, that would free it from the Russian pipelines that carry the bulk of its gas.

Naftogaz subsidiary Urktransgas has already started constructing the pipelines to connect the planned terminal with the Ukrainian gas transportation system, according to reports. That connection is to be finished in 2016, while the terminal, with an import capacity of 10bn cm per year, is set to be operational in 2018.

All of which would offer Ukraine increased leverage in its ongoing pricing quarrel with Gazprom - if only the Spanish "partner" hadn't swiftly denied any such deal. "Gas Natural has not signed any contract to invest in an LNG plant in the Ukraine, nor are we leading any consortium to develop such a terminal... nor are we studying anything along these lines," the company said in a statement, according to Reuters.

However, Ukraine's state investment agency insists the deal has been signed and said it is looking into the report stating otherwise. "There must have been some miscommunication," a spokeswoman for the agency said. At the same time, it offered a range of details on the plan which appear to back up its claim.

On manoeuvres

Both sides are clearly manoeuvring now. Ukraine has yet to officially request the reduction to 18bn cm in 2013, Boiko told reporters, according to Ria Novosti. "We have already informed our [Russian] colleagues of this volume [18bn cm]," he said. "As soon as we submit our proposal officially, we'll get a response." Last week, the minister said that purchases would amount to 26bn cm in 2012 and 20bn cm in 2013.

The game here is that Kyiv is threatening to unilaterally reduce imports at a time when the Russian gas company is already suffering after being forced to cede price discounts to over a dozen major European customers as US shale gas and LNG imports reduce global spot prices and offer alternative sources of gas for Europe. Ukraine has been trying to play the same card for some time. However, its position is considerably weaker because its gas pipeline network is tied to Russia, and unlike the rest of Europe, has few alternative sources.

"If Russia's price policy changes for the better for us, we might gradually restore the volume of gas purchase. Otherwise we will continue reducing the amount of purchase and looking for more beneficial alternative gas supply sources," Boiko said. However, the Kremlin will hardly take the reduction lying down, and has threatened to take the case to international arbitration if Ukraine ignores the terms of the deal.

Russia's major counter move to the years of disagreement with Ukraine - whose pipeline network continues to play a vital, if dwindling, role in shipping Russian gas to Europe - is the massive South Stream pipeline plan. Gazprom sealed the final investment agreements with European partners earlier this month and says construction will start in the new year. The 63bn capacity pipeline would bypass Ukraine completely, lessening the leverage the transit function offers Kyiv.

Consequently, the claimed LNG terminal agreement is intended to secure an alternative source of energy that would negate the power of South Stream. The plan is to create "a consortium of investors in the LNG Terminal national consortium and intallation of mobile floating platforms for docking of LNG tankers near the Yuzhny port in Odessa region," Ukraine's national projects agency said.

The agreement, it says, was signed by Vladislav Kasykiv for Ukraine's state agency for national projects, the president of Excelerate Energy Edward Scott, and Gas Natural Fenosa's managing director for External Relations Jordi Garcia Tabernero. A ceremony was held at the same time as the signing to mark the start of construction of the interconnector.

The state agency also released other details in a bid to prove its claim. It explained that after launching the project in 2015 using a floating offshore regasification facility, the onshore terminal will be built by 2018, offering capacity of around 10bn cm per year. The project was approved in August 2010, it claims, with a technical study completed by Fenosa subsidiary Socoin in early 2012. The Ukrainian state will hold 25% with the remainder owned by the private partners. Spain's Enagas and Excelerate will supply the handling equipment for the terminal, Kommersant Ukraina reported.

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