New Reality of Gas Transit

On January 1, a new reality came – the new TSO of Ukraine continued the transit of Russian gas. It is a whole package of agreements by which NJSC Naftogaz of Ukraine, Gas TSO of Ukraine and Gazprom regulated the continuation of transit. Ukrainian negotiators convince of victorious results, while the agreements themselves remain under the guise of confidentiality. What do we have in the final analysis? The SWOT analysis will help understand the new arrangements.

 

Strengths

- Keeping transit as such saves economic benefits for Ukraine. The plans of the Russian Federation to deprive our country of profitable business and to start all bypass gas pipelines have not been implemented. Ukraine will receive guaranteed revenue for the next five years, estimated at USD 7.2 billion. Gazprom can book additional GTS facilities and revenue will only grow from this. The total positive effect on the economy is estimated in the next 5 years at the level of UAH 150 billion.

- An independent certified TSO, which has switched with Gazprom to European rules of operation, has started working in Ukraine. In particular, an inter-operator agreement was signed between Gas TSO of Ukraine and Gazprom, which defines technical regulations and rules of interaction, and also records switching to energy units. Despite the fact that this agreement operates only at two points of entry into the GTS (Sokhranivka and Sudzha), it allows European companies to book the capacity of GTS of Ukraine with the point of gas transmission at the border with the Russian Federation.

- The main issues of conflict have been clarified and the waiver of all claims and actions under January 2009 contracts has been registered. The amicable agreement between Naftogaz and Gazprom speaks of waiver of mutual claims, the Ukrainian party received payment of almost USD 3 billion by the decisions of the Stockholm Arbitration. The issue of responsibility for Russian gas supplies to isolated districts of the Donetsk and Luhansk regions is also closed. The amicable agreement with Gazprom on the fine of the AMCU does not provide for the return of assets confiscated in Ukraine to comply with this decision to the Russians. Naftogaz will continue to sue the Russian Federation for seized assets in Crimea.

- The tariffs for the services of Gas TSO of Ukraine, which are attractive to users and competitive in comparison with alternative pipelines, are set. About 80% of the operator’s tariff revenue will be ensured through transit, which means reducing the burden on users in Ukraine (producers, consumers). The positive effect for such users is estimated by the Director of Gas TSO of Ukraine Serhii Makohon at tens of billions of UAH. Potentially, this is a reduction in wholesale gas prices (provided the transition from “hub+” to “hub0” as a pricing principle).

 

Weaknesses

- Minimal volumes of transit de facto testify to the reality of launching Russian bypass “flows”. For 2020, these volumes are fixed at 65 bcm, that is, the same 89.6 bcm of transit in 2019 minus the 15 bcm that went through the Turkish Stream. For 2021-2024, the minimum volumes are 40 bcm, that is, minus another 25 bcm - about as much as Nord Stream 2 will take, with 50% capacity utilization.

- Naftogaz reserves the capacity of GTS as a “company organizing the transit”, not directly Gazprom. This is a retreat from European practice, where the shipper (the owner of gas) is the customer of the transport services and not the foreign company; in addition, the transit fee is not the result of bidding but is determined by the Regulators who set the appropriate tariffs. Naftogaz, having a contract with Gazprom, where the conditions and volumes were recorded, as well as its tariff, acted as an intermediary between Gazprom as the real customer of transportation services and Gas TSO of Ukraine.

Such mediation may call into question the functionality of unbundling. Naftogaz continues to be part of the transit business: first, it receives a margin as a “travel agency” for the organization of transit services, insuring risks for Gazprom; second, as the parent structure of Ukrtransgaz, it will receive part of the profits of the TSO under the asset purchase and sale agreement. Moreover, the representatives of Naftogaz do not hide that they expect to provide the services of a “transit organizer” to other companies, including European ones.

 

Opportunities

- The transition to cooperation under European rules gives the opportunity to other European companies to reserve Ukrainian GTS for the transit of Russian gas. These are additional revenues for Naftogaz and the TSO. Additional short-term capacity reservation, for example to cover peak demand in Europe, will be carried out at a higher rate (coefficients to current tariffs).

- Faster integration of Ukraine and EU gas markets. Unblocking the connection points with the EU Member States where Gazprom served as a “super operator” will allow the TSO to earn additional services/products. A virtual reverse is possible for the entire volume of transit, which is an additional volume for gas imports in addition to physical ones. Test deliveries of gas to Ukraine by the Trans Balkan Pipeline should start soon. OGTSU plans to hold a road show for the provision of short-haul services – for example, such a “short transit” is possible from Poland to Hungary and Romania, from Hungary to Slovakia and so on.

- The application of EU law to relations with Gazprom and other customers of GTS facilities also requires de-monopolization of pipeline exports from the Russian Federation. Free access by third parties to booking entry into the GTS of Ukraine is also a chance to end Gazprom’s export monopoly and resume gas supplies from Central Asia or to obtain gas from other Russian companies.

- 5-year contract opens opportunities for long-term planning of GTS development and solving of market problems. It's no secret that GTS facilities need market optimization,

as well as development for the future – including new areas of gas transportation and use for other energy resources (hydrogen, biogas). The settlement of imbalances, that is, the solution of the problem of gas withdrawals from the system outside the contracted volumes is among the challenges for the GTS operator that need to be addressed.

 

 Threats

- The possibility of continuing the transit for another 10 years is rather illusory, although it is recorded in the tripartite protocol. Despite the interest of European consumers, in 2025-2034, Gazprom’s interest in the Ukrainian route will be even lower due to increased competition in the EU. This is fueled by the fact that by 2030, EU gas demand – by most predictions - will be stable or slightly reduced, while by 2050 it will decline in view of high greenhouse gas emission reduction targets. Thus, after the launch of the Turkish Stream and the completion of the Nord Stream 2 construction, Gazprom’s strategy will be to renegotiate agreements with European consumers and completely exclude the Ukrainian gas supply route.

- The likelihood of renewal of Russian gas supplies to Ukraine has increased. Indeed, there were no and there are no legislative restrictions for this, it is enough to have a contract with Gazprom and to book capacity for entering the GTS of Ukraine. The resumption of gas imports from the Russian Federation may have potential price benefits (if market-based, based on the NCG hub price and a “reasonable discount”), but it will also return the leverage of political influence on the situation in Ukraine to the Kremlin, as it was before 2014. As long as there is no a liquid and competitive gas market in Ukraine, direct gas sales from the Russian Federation should be restricted or banned (or allowed only if the contracts are subject to EU laws and regulations).

Roman NitsovychResearch Director
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