Gas symbol of Russia

Gazprom lost 20% of its production and almost half of its exports last year. This is the result of yet another monstrous mistake by the company: it essentially voluntarily abandoned its best market, cutting supplies to Europe several times over (later this was “officially formalized” by the explosion of the Nord Stream). And yet, in the year of the catastrophic decline, Gazprom remained profitable and paid a record five trillion rubles in taxes. How is this possible and what awaits the company?

Not just a company

Gazprom celebrated its 30th anniversary in February, although the company is older than Russia itself. It was conceived in 1989 by the USSR Minister of Gas Industry Viktor Chernomyrdin and his deputy Rem Vyakhirev. The concern was separated from the Ministry of Gas Industry, transferring fifty enterprises and 16% of the world's gas reserves to it. And 30 years ago it was simply transformed into a joint-stock company.

"The second budget", "the government's wallet" - they've called it many names! - Gazprom has always had a superpower that the authorities often turned to. In the 1990s, the company paid pensions and supported the ruble exchange rate. Many wanted to have a superpower. In the 1990s, Gazprom almost came under Vyakhirev's control.

Be your own boss

At that time, some large companies organized the ownership structure so that a large block of shares could be managed by the company itself in one way or another. In fact, this transferred it to the control of management. This is how the ownership of AvtoVAZ and Surgutneftegaz was organized. They tried to pull off a similar scheme with Gazprom.

In 1994, Prime Minister Chernomyrdin instructed the state to conclude a trust agreement with Gazprom, under which Vyakhirev would manage the state's share package. The agreement allowed the concern to buy back 30% of its shares from the state at a nominal price (15 million dollars at the 1996 exchange rate) in two years.

But they did not have time to use it. In 1995, the contract was amended : Gazprom was offered to implement the option "at a price agreed upon with the government." And in 1997, thanks to the efforts of Deputy Prime Minister Boris Nemtsov, the clause about the option was removed from the contract.

"Give me Gazprom," Vladimir Putin asked back in 1999. Having come to power, he immediately took up the issue. At the very first meeting of Gazprom shareholders under Putin as president, in 2000, Dmitry Medvedev became chairman of the board of directors. "They surrounded me, like a bear in a den, with all sorts of nonsense, it was impossible to work," Vyakhirev recalled . A year later, he resigned, and since then Gazprom has been headed by Alexei Miller, an acquaintance of Putin from his time in the St. Petersburg mayor's office.

Dreams did not come true

Gazprom is Putin's main personal project, Boris Nemtsov and Vladimir Milov wrote in their report "Putin and Gazprom" . It is "the energy core of the Russian economy; the sustainability and prospects of our economy largely depend on how efficiently and reliably this company operates."

The prospects were mind-boggling. Russia had set itself the goal of becoming an “ energy superpower ,” and Gazprom was to play a key role in that. Gas prices were rising, and in 2006 Gazprom gained a monopoly on pipeline exports. It was set to become the most valuable company in the world. In 2008, it was the third most valuable company in the world after ExxonMobil and Apple — $360 billion. Miller promised then that the stock market capitalization would reach $1 trillion in 7–8 years. Less than a year later, the state corporation fell to $100 billion, and is now worth half that.

But in the 2000s, things were going so well that the first mistake went practically unnoticed.

Nothing was liquefied

Gazprom overslept, or rather ignored, the LNG revolution (liquefied natural gas). Liquefying gas to deliver it not through a pipeline but by sea began a long time ago (the first plant was built in the US in the 1940s, in the USSR in the 1950s), but the boom happened in the 2000s.

Gazprom had every chance to become a pioneer. In 2004, it had a project to build a Baltic LNG plant for five million tons, a site was purchased for it, and there was a buyer (Canada). But they did not build it - they decided that LNG was not needed since Nord Stream was being built: the pipeline was more reliable. The plant was built anyway, but with a delay of more than 10 years: Portovaya on the Baltic began operating in 2022.

Gazprom made better use of the opportunity on the other side of Russia. In 2006, when Novatek was just starting to build its Yamal LNG, Gazprom bought a controlling stake in the Sakhalin-2 project, which already had contracts with Japan. The first LNG plant in Russia started operating there in 2009, but it failed to make up for lost time: Gazprom now produces half as much LNG as Novatek.

Gazprom and Putin considered pipelines better than LNG until the very end. Gas supplied through them is always several orders of magnitude more competitive than LNG from overseas, Putin told the head of France's Total in 2018 and last September at a forum in Vladivostok, shortly before the Nord Stream explosion. In 2019, Gazprom objected to Novatek's creation of an LNG cluster in Yamal, seeing it as a "threat to the budget," and its department for prospective development continued to expose "delusions" about LNG.

The state covered up its Gazprom as best it could. When opening Yamal LNG in 2017, Putin effectively banned Novatek from competing with Gazprom: “Work must be structured so that LNG projects do not compete with our own pipeline gas.” A year later, Novatek took 2.5% of the global LNG market. Despite Putin’s words, its gas also reached Europe. Gazprom does not like this; talk about non-competition between liquefied and pipeline gas continues .

But the authorities' attitude is beginning to change. Last week, Deputy Prime Minister Alexander Novak called the expansion of LNG production and exports "a key task in the current conditions" at a meeting of the Ministry of Energy. Last year, LNG became the only type of Russian fuel whose supplies to the EU increased. Novatek increased them by 13.5%, to 14 million tons. Gazprom supplied 40 times less.

Oil shale

Gazprom also denied the " shale revolution " in the US in the early 2010s. The mass introduction of these production technologies made access to oil and gas easier. Shale gas reserves were discovered in many countries, including Gazprom's traditional clients (Germany, Ukraine, Austria, etc.). And the largest reserves in Europe were found in Poland, which has serious plans for them (they have not yet been implemented).

Miller called shale gas production in the US a "bubble" that would soon burst. There were financial problems, but shale gas did not disappear from the market.

Russia also has huge reserves of shale gas, although it is not easy to extract it in our conditions. But it was not worth brushing aside the changes that shale gas brought. Together with LNG, it made the market more flexible: prompt extraction plus delivery to any place in the world. But Gazprom continued to insist: there is and will be nothing better than a pipe from a large deposit.

Gas goes to war

Perhaps this would be the case for Russia’s neighbors if Putin and Gazprom thought more in economic categories than in geopolitical ones.

For each country, gas had its own price depending on its solvency and agreements on other issues. It was always cheaper for Belarus (this was often the subject of negotiations between Putin and Lukashenko), and more expensive for Europe.

With Miller's arrival, mega-construction projects began, the effectiveness of which was questionable, but the geopolitical considerations were obvious. Putin's friends latched onto the giant, Nemtsov and Milov wrote in 2008, minority shareholder Alexei Navalny went to court about this. Nothing changed. Instead of reaching an agreement with Ukraine, more and more new pipes were built to bypass it. Nord Stream was followed by Nord Stream 2, Turkish Stream, and Power of Siberia to China. The main beneficiaries of these large Gazprom projects are companies associated with Arkady Rotenberg and Gennady Timchenko, as Sberbank wrote in its 2018 analysis, after which the author of the report and its director were fired (that report, however, had a lot of bright things not only about Gazprom, but also about Rosneft).

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The first alarm bell rang on New Year's Eve from 2008 to 2009, when the "gas war" broke out between Russia and Ukraine. They did not agree on the terms of supplies, and Russia stopped pumping gas. Bulgaria, Moldova and Slovakia froze. This became an additional argument for the EU to support the construction of the Northern and Southern Streams (they later abandoned it in favor of the "Turkish").

“The Kremlin has decided that Gazprom is part of Russia’s national security and geopolitics, not a commercial company,” Macro Advisory founder Chris Weafer said in 2013. “We’re going back to the Soviet era, when Gazprom was a government ministry.” Only now Gazprom has also begun to perform the functions of the Foreign Ministry.

The main loss

As the war dragged on, the Russian authorities' task became to persuade Europe to abandon its support for Ukraine. A second front was opened – the energy front. The EU sought to limit Russia's income from oil and gas sales, while Russia threatened to cut gas supplies, hinting at an inevitable catastrophe in the winter.

In the summer, supplies began to decline, and gas prices in Europe began to rise. In August, when they reached 3,500 euros per 1,000 cubic meters, Medvedev, with warm wishes to the leaders of European countries, raised his forecast to 5,000 euros by the end of the year. Gazprom's forecast was slightly more modest - 4,000 dollars.

A month later, both Nord Streams were blown up, and the issue was resolved. Only one thread (out of two) of the never-certified Nord Stream 2 remained intact. Russia offered to organize supplies through it, but was refused. Now gas from Russia to the EU goes only through the Turkish Stream (to Hungary), one thread of the pipeline through Ukraine, and in the form of LNG.

Trillion Bill

The total bill for imported gas was around 400 billion euros, three times more than in 2021. At the same time, gas consumption in Europe decreased by 13% due to a warm winter, a savings plan and an 8% reduction in energy-intensive production (fertilizers, metallurgy). On average, gas consumption across industry decreased by 25%. The economy is teetering on the brink of recession.

The increased cost of gas and inflation required help from the authorities. 668 billion euros were allocated for subsidies to businesses and the population.

The EU is trying to cut consumption even further and has capped purchase prices at $2,000 while maintaining subsidies. These measures contradict each other and could have bad consequences, IMF experts have pointed out .

Europe has paid and will continue to pay dearly for the gas war (it may be short 57 billion cubic meters this year), but its losses are temporary. And Gazprom has lost the lion's share of export revenues and its best market for a long time, if not forever. The share of Russian gas in the EU's total consumption has fallen from 40% to 10%. Before the war, it seemed incredible, but the EU has begun to buy more LNG from the US than it receives from Gazprom.

The winter was warm, Europe did not freeze, and gas prices dropped. Now they are lower than before the war.

Gazprom's year-end results: production fell to 412.6 billion cubic meters from 514.8 billion in 2021, the plan for this year was 494.4 billion. The decline exceeded 100 billion cubic meters, or almost 20%, and 12% for the country as a whole , the worst result since 1990, notes Vitaly Ermakov, Senior Research Fellow at the Oxford Institute for Energy Studies (OIEI). This is the result of the "gas war": Gazprom's supplies to the domestic market decreased by only 5.7% (243 billion cubic meters), but exports to non-CIS countries decreased by 84.2 billion cubic meters, to 100.9 billion. This is taking into account the beginning of the year, when supplies were proceeding as usual. Others (Novatek, Rosneft) have not yet suffered such losses from the war, Yermakov notes: some were even able to increase gas production and win back part of the domestic market from Gazprom. This year, Gazprom stopped publishing data on production and exports.

Gazprom will now have to operate with underutilized capacities for many years.

"The loss of 84 billion cubic meters of exports to the EU (and potentially more than 100 billion per year) is a disaster. It will not be possible to return to this market," MMI analystsnoted . Europe will not want to increase its dependence on Russian gas again for a long time, and over time this may simply become unprofitable for it, wrote oil and gas expert Sergei Vakulenko. It can find new suppliers, finance projects in new gas-producing provinces, such as the Eastern Mediterranean, conclude long-term contracts for LNG supplies from Qatar "with obligations to select certain volumes" and develop renewable energy "with high capital costs and low operating costs." So there will simply be nowhere to return to.

By the way, the energy transition – the replacement of fossil energy sources with renewable ones – is another revolution that Putin and Gazprom are in vain denying.

Caveman

Environmental issues and limited resources have forced energy companies to develop renewable energy. Gazprom, unlike Western companies, is not doing this. “We believe that stable investments in the gas industry will help avoid a repeat of the 2021 crisis and prevent the ‘energy transition’ from turning into an ‘energy collapse,’” said Kirill Polous, head of the long-term development programs department.

Putin does not understand why the main fuel is coal, and not the much "cleaner" gas. And he associates talk of energy transition with the machinations of competitors: "When ideas of this kind are promoted, it seems to me that humanity may again end up in caves, but only because it will not consume anything if... it only relies on solar or wind energy, or tides."

While most energy is still generated from fossil fuels: 36.5% from coal, 22.2% from gas. But the balance is changing quickly. In 2021, solar and wind provided more than 10% of the world's electricity for the first time .

Last year's shock forced Europe to seek energy at any cost, even mothballing coal plants. At the same time, investments in alternative energy increased. By unleashing the war in Ukraine, Russia accelerated the energy transition. According to BP's forecast, the greatest fall in demand will be for gas.

Losing excess weight

For another company, such mistakes could have been fatal (like, for example, for Kodak, which ignored digital). But not for Gazprom.

He has accumulated a fair amount of "fat": at the end of 2021, gas prices in Europe were high, and with the start of the war they soared. As a result, Gazprom received a record net profit in the first half of 2022 - 2.5 trillion rubles, 2.6 times higher than a year earlier.

In the second half of the year, the federal budget began to be balanced with a deficit, and they remembered about the "second budget". Gazprom's additional contribution amounted to 1.8 trillion rubles: 1.248 trillion - a one-time mineral extraction tax and more than 600 billion - dividends on the state-owned share package (in total, they exceeded 1.2 trillion). Miller could only be proud of the record: "In 2022, the Gazprom Group paid more than 5 trillion rubles to budgets at all levels." This is almost 10% of the consolidated budget (53.5 trillion rubles in 2022).

The additional tax, decreased production and collapsed exports did not drive Gazprom into losses. Its net profit has decreased threefold compared to 2021, but is still impressive - 747 billion rubles. This year, it will continue to pay an increased mineral extraction tax - 600 billion rubles.

In addition, Gazprom has planned a record investment program of 2.3 trillion rubles. The company intends to finance it from its own funds, without resorting to borrowing. "Gazprom is simply a very rich organization," commented Oleg Vyugin, a professor at the National Research University Higher School of Economics, former First Deputy Minister of Finance and Deputy Chairman of the Central Bank. Despite all the upheavals, the company, according to him, will be supported by the domestic market: it is much larger than exports, and the consumers are primarily industrial enterprises and energy companies.

We will have to forget about superprofits, but Gazprom still has a large margin of safety.

Gazprom is not yet in danger of collapsing, Tatyana Mitrova, a research fellow at the Center for Global Energy Policy, assured Important Stories: “The national treasure made huge revenues in 2022 due to exceptionally high prices (even against the backdrop of an 80% reduction in exports by the end of the year), and in 2023–2025, for the same reason, it will probably have higher revenues than in 2019–2020.”

Non-fatal losses

Gazprom's record investment program includes the construction of new pipelines to China. This is now the company's main hope.

Gazprom regularly reports new export records to China, but the volumes there are small: 15.5 billion cubic meters in 2022. Deliveries are made via the Power of Siberia, its design capacity is 38 billion cubic meters per year, and it is planned to reach it by 2025. Another 10 billion will be provided by the Far Eastern route, but it will have to wait: the contract was signed in February 2022, and Gazprom began design work in August. In addition, Russia wants to build Power of Siberia 2, which would replace the lost Nord Stream 1: its capacity is 50 billion cubic meters per year versus 55 billion for the exploded gas pipeline. But there is no clarity yet regarding this main project.

Does China Need a Second Pipeline?

The recent visit of the Chinese President Xi Jinping showed that China does not really need this pipeline. It was mainly the Russian side that talked about it, but the contract for gas supply was never signed (however, the negotiations on the Power of Siberia also took a long time). S&P Global Commodity Insights estimates China's demand for gas last year at 386 billion cubic meters. The country produces more than half of it itself and is increasing production (the goal is 230 billion cubic meters by 2025). And for imports, it is betting on LNG - it has 34 contracts for 63 billion cubic meters per year (including 15 with the United States), and plans to contract 276 billion cubic meters of LNG per year by 2025. It is unclear whether there is room for another 50 billion cubic meters from Russia. Moreover, China does not want to step on the European rake and make itself dependent on the Russian pipeline: the war has shown Russia’s value as a reliable supplier.

Even if everything works out and the gas that is not in demand in Europe can be sent to China, it will bring in less money. Gazprom is currently pumping gas to China at about $290 per thousand cubic meters, while the prices of European contracts are about $1,000, BCS analyst Ronald Smith estimated based on Chinese customs data. Ermakov obtained a similar result: the effective price on average for 2022 for China could be from $260 to $390 per thousand cubic meters.

The Kremlin decided that Gazprom was part of Russia's national security and geopolitics, not a commercial company.

Other planned projects with eastern countries may have an effect - the creation of a gas hub in Turkey, the expansion of partnership with Azerbaijan, Vyugin reasons: "Many experts say that none of this will be realized. But who knows?" Probably, there will be an expansion of exports to neighboring countries (Azerbaijan, Kazakhstan, Uzbekistan) and China, says Mitrova: "Not the most profitable markets, of course, but they will generate revenue. In the medium term, we will have to forget about superprofits, gradually Gazprom's financial capabilities, including for subsidizing domestic prices, will be reduced, but the safety margin is still large."

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Whatever eastern projects Russia agrees on, their implementation will take time. “The main problem, of course, is that Gazprom will most likely have to operate at underutilized capacity for many years,” Yermakov writes. He estimates the opportunity costs already incurred (used in economic analysis to choose between different options) at $24 billion per year, compared with Gazprom continuing to supply gas to the EU. And this lost profit will grow.

Scenarios for the development of Russian gas exports until 2030 from the Center for Global Energy Policy show that even in the most catastrophic scenario, Russian exports (pipeline gas and LNG) will not be lower than 125 billion cubic meters per year. “This is, of course, only half of the 2021 level, but it is still comparable to the exports of Qatar or the United States,” notes Mitrova. In Yermakov’s most pessimistic scenario, Russia also maintains significant exports to non-CIS countries (except Europe) at prices “that will likely be, on average, significantly higher than in previous years.”

“This is a reduction, but not death,” Vyugin summed up Gazprom’s prospects. “In fact, this is what is happening to the entire Russian economy.”