A shrinking giant

Gazprom’s losses on the European market have left the company in the red. Increased exports to China might not be enough to compensate.

Gazprom, Russia’s state-owned energy behemoth, has long been a major contributor to the Kremlin’s coffers. The company, which until recently earned the equivalent of tens of billions of dollars annually from gas sales to Europe, reported its first loss in nearly 25 years at the end of 2023. Meduza breaks down the sudden drop in Gazprom’s earnings and the gas giant’s options for turning its financial situation around.

For many years, Russia’s state-owned oil and gas giant Gazprom has rightfully been regarded as one of the nation’s most successful enterprises. It’s maintained profitability through various economic challenges, including the 2008 global financial crisis, the ruble’s plummet in 2014 due to sanctions and falling oil prices, and reduced demand for gas during the COVID-19 lockdowns. The years 2021 and 2022 were particularly successful, with gas price surges in Europe following the pandemic and the fallout from the full-scale invasion of Ukraine collectively netting the holding more than 3.3 trillion rubles ($35.6 billion) in profits — almost returning it to the “golden age” of super-profits of the early 2010s.

Gazprom’s gas business has always been its primary source of income. Its success was based on two key factors: a robust resource base with low extraction costs and well-established connections with European buyers that date back to Soviet times (and are reinforced by long-term contracts). In 2022, Gazprom began a voluntary withdrawal from the European market, sharply curtailing operations and undermining one of the business’s key pillars. The results proved costly; Gazprom’s financials for 2023 were considerably worse than anticipated, showing a loss of 629 billion rubles ($6.8 billion) against a forecasted profit of 450 billion rubles ($4.8 billion).

Gazprom’s report details results from all its operational sectors: gas (Gazprom and Gazprom Export), oil (Gazprom Neft), and electricity (Gazprom Energoholding LLC). Of these, only the gas business witnessed a dramatic fall in revenue, dropping by half to three trillion rubles ($32.4 billion), which is now slightly less than income from oil and gas condensate sales (3.3 trillion rubles, or $35.6 billion).

This decline was driven by two factors: the sharp decrease in sales to Europe (from 62 billion cubic meters the previous year to just 24 billion cubic meters) and the rapid shift in the European market away from Russian gas, which brought export prices back to their pre-war levels. Consequently, the holding’s overall revenue fell by 27 percent to 8.5 trillion rubles ($91.8 billion).

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Cosmetic cost cutting

If Gazprom is cutting expenses, it’s not doing so on a large scale. While the company reduced operational expenses in 2023 by 8.2 percent, its capital expenditures actually rose by 277 billion rubles ($3.9 billion) to 3.1 trillion ($33.4 billion), with the majority of this investment directed toward the gas business.

The negligible decrease in operational expenses might be explained by the need to maintain existing infrastructure, but it’s surprising that capital expenditures haven’t been reduced, noted Sergey Vakulenko, a nonresident scholar at the Carnegie Russia Eurasia Center. “By the fall 2022 budgeting period, it was already quite clear that export sales would plummet, drilling could be drastically reduced, and spending should also be cut back,” said Vakulenko. “But Gazprom doesn’t operate like that.”

At the same time, Gazprom’s expenses for 2024 are projected to be lower. According to the company’s report, it plans to allocate 2.6 trillion rubles ($28 billion) for capital expenditures this year — down from last year’s 3.1 trillion ($33.4 billion).

Gazprom’s debt has also increased, rising 1.3-fold to 5.2 trillion rubles ($56 billion). The company has set a maximum debt-to-equity ratio of no more than 40 percent, which implies that the holding can comfortably meet its financial obligations at this level. According to Meduza’s calculations, Gazprom’s debt-to-equity ratio is currently at 31.7 percent, providing the company with some leeway to further increase its debt load.

Owing the Kremlin

There’s another debt-related indicator that directly affects dividend payments — the net debt to adjusted EBITDA ratio. EBITDA is a financial metric used to evaluate a company’s operating performance, and this ratio shows how much debt a company has relative to its earnings. A higher ratio indicates a heavier debt burden.

By the end of 2023, Gazprom’s EBITDA ratio had climbed to 2.96 from 1.07 the previous year. In December, Famil Sadygov, the deputy chairman of Gazprom’s management board, pointed out that the company’s dividend policy allows the company’s board of directors to adjust dividend payouts if this ratio exceeds 2.5.

Based on Gazprom’s IFRS statements, the dividends for 2023 could amount to 15.3 rubles (16 cents) per share, according to the Russian business daily Kommersant. However, the increasing debt burden and declining revenues in the holding’s core business might prompt the board to suspend dividends.

This is unlikely to please Gazprom’s main shareholder — the Russian Federation. The state controls more than 50 percent of Gazprom’s shares, and dividends are one way to channel the company’s supplementary earnings into the federal budget. In 2022, Gazprom only paid interim dividends, but at a record-breaking 51 rubles (55 cents) per share, with the company disbursing 1.2 trillion rubles ($12.9 billion) to its shareholders.

Another way to boost Gazprom’s contribution to the state budget is through periodic increases in the mineral extraction tax (MET) it pays. In 2022, for instance, this tax was raised by a one-time amount of 1.2 trillion rubles, equivalent to the company’s profit for that period. Starting in 2023, the government raised Gazprom’s monthly MET payment by 50 billion rubles ($539 million), effective until 2026. This means that, under current legislation, Gazprom is obligated to pay approximately an extra 600 billion rubles ($6.4 billion) annually, regardless of its financial circumstances.

Could things turn around?

According to the latest financial data, Gazprom’s parent company reported a net loss of 450 billion rubles ($4.8 billion) in the first quarter of 2024, a significant increase from the 95-billion-ruble (one-billion-dollar) net loss recorded during the same period last year. Additionally, the company posted a first-quarter sales loss of 47 billion rubles ($506.6 million) this year, in stark contrast to a profit of 125 billion rubles ($1.3 billion) in the first quarter of the previous year.

It’s clear that Gazprom needs to implement serious changes in its gas business. The company must either boost revenue and explore new income sources or make substantial cuts to operational and capital expenditures — or ideally, do both. When Famil Sadygov forecasted four trillion rubles ($43.1 billion) in revenues from 2023 gas sales, he specified “growing gas deliveries to China” as a key driver. However, actual revenues fell short by one trillion ($10.7 billion), and it’s now clear that supplies to China and Central Asia can’t adequately compensate for the loss of the European market.

In 2023, Gazprom, delivered 22.7 billion cubic meters of gas to China. Using Sergey Vakulenko’s calculations, the average cost of these gas deliveries was approximately $245 per thousand cubic meters — about $5.5 billion in revenue over the year. To put this in perspective, if Gazprom had sold the same volume of gas in the European market instead, where the average gas price in 2023 was $550 per thousand cubic meters, it could have earned $12.5 billion from these sales — at least twice as much as from sales to China.

Looking ahead to 2025, Gazprom’s remaining European exports are expected to decrease by half again, to 12 billion cubic meters per year, if Ukraine doesn’t extend its gas transit agreement with Russia. (Kyiv has already said it plans to let the agreement expire.) On today's European market, gas slated for 2025 delivery costs an average of $400 per thousand cubic meters. This means that with the loss of sales through Ukraine, Gazprom stands to lose about three billion dollars in revenue each year.

Another potential source of revenue is domestic gas sales within Russia. However, expanding this revenue stream wouldn’t be feasible without a significant increase in gas tariffs, which could lead to public backlash, and without active gasification of regions, which would require substantial investment.

Gazprom’s subsidiaries often form the backbone of local economies in regions where the primary industry is resource extraction. The company’s ability to cut operating expenses is constrained by its social obligations, the expectations of contractors used to high payments, and a large workforce. By 2022, Gazprom’s staff had grown to 500,000, nearly half of whom are white-collar workers.