THE RUSSIAN MONOPOLY AND ITS EFFECTS

MOST YOUNG Russians dream of a job at Gazprom, according to a recent poll that signals a vote of domestic confidence in the world's biggest gas company. But the global financial crisis is casting a shadow on the Russian gas monopoly's expansion strategy. The poll, conducted by the Public Opinion Foundation, found that one in five Russians aged under 26 would prefer to work for Gazprom than a private-sector firm. Another 8% looked to a career at Rosneft, the national oil company, to provide stability amid the global financial crisis.

But in the short term at least, Gazprom's outlook is highly uncertain. As recently as last summer, Gazprom boasted it would, by 2015, be the world's biggest company in terms of market capitalisation with a value of $1 trillion. Since then, its market capitalisation has fallen from a peak of near $300bn to around $90bn. And export earnings are set to fall this year, as European gas prices, pegged to world oil prices with a time lag of six to nine months, decline in the second quarter – the price of oil has fallen by 64% in the last nine months.

While a year ago Gazprom was battling a gas-supply crunch, it now faces a drop in demand at home and in Europe, says Jonathan Stern, head of gas research at the Oxford Institute of Energy Studies. "Suddenly, Gazprom is living in a completely different reality," says Stern.

Alexander Burgansky, an oil analyst at Renaissance Capital in Moscow, says European gas demand fell sharply in the first quarter, but will revive once prices drop. Consumption in Russia is down by about 5%. However, "if oil prices stay low, some aspects of Gazprom's investment programme will appear luxurious and will have to be cut," he claims.

Meanwhile, Gazprom's image as a reliable gas supplier is at an all-time low following January's price dispute with Ukraine, which led to the worst supply disruptions seen in Europe (PE 2/09 p4). Vladimir Putin, Russia's prime minister, estimated that the supply cuts cost Gazprom $1.1bn in lost revenues at a time when the company can least afford it.

But Gazprom's long-term planning department appears unruffled by the crisis. Russia could boost gas production to 0.876-0.981 trillion cubic metres a year (cm/y) by 2030, according to a draft plan submitted to the energy ministry in March. A significant portion of the incremental output will feed domestic markets, where consumption is expected to rise to 0.550-0.613 trillion cm/y over the coming two decades. Exports are also set to soar, by between 69% and 80%, to 415bn-440bn cm/y, as Gazprom expands its presence in Europe and captures new markets in Asia-Pacific and the US.

Fulfilling these plans will require more than $0.5 trillion of capital investment, largely in the exploration and development of new reserves in the Arctic offshore and western Siberia.

Underscoring Gazprom's Arctic ambitions, the Russian Security Council released a strategy document in March calling for an increased military presence in the Arctic to ensure the transformation of the region into Russia's "main strategic resource base". Russian officials estimate the Arctic seabed, also claimed partly by Canada, Denmark, Norway and the US, could hold between 9bn and 10bn tonnes of oil equivalent, about the same as Russia's total known oil reserves – 6.4% of the world total.

Gazprom has quietly postponed, until 2010, a final decision on the timetable for the launch of the 3.8 trillion cm Shtokman gasfield development in the Barents Sea – its flagship Arctic offshore project – saying more time is needed to study the technical challenges. Yuri Komarov, chief executive of the Gazprom-led Shtokman Development group, says the delay will not prevent production starting in 2013. But the global financial crisis will prevent the partners – Gazprom (51%), Total (25%) and StatoilHydro (24%) – from raising the $15bn required for the first phase of the project.

Delays at high-cost Arctic projects will intensify pressure on Gazprom to secure gas supplies from neighbouring former-Soviet states.
Alexei Miller, chairman of Gazprom, and Rovnag Abdullayev, president of Azerbaijan's state-owned Socar, signed a memorandum of understanding in March calling for Russia to begin importing Azerbaijani gas in 2010. The project would involve the reversal of a Soviet-built pipeline that formerly carried gas from Russia to Baku.

It maintains a private army, employs a half million people and runs entire cities around Russia. Now, the power of Gazprom has struck Europe with its full force, as the continent shivers under the firm's decision to shut off gas to its biggest and most lucrative customers.

Russia first closed the taps to Ukraine on New Year's Day, leading within days to severe disruptions in 18 European countries, which rely on pipelines that cross Ukraine to deliver most of their Russian gas supplies. EU efforts to mediate the conflict have failed. Government officials and the leadership of the state-run gas companies inside Russia and Ukraine continue to trade accusations over who is to blame.

Gazprom insists that the dispute is purely commercial. Squabbling over price, the two sides failed to sign a contract for 2009, leaving no choice for this "business" but to shut off the taps.

Yet most observers think otherwise. A look at Gazprom's leadership and murky history, particularly since Vladimir Putin rose to power nearly a decade ago, shows just how politicized the company is.

"To a large extent, Gazprom is almost a proxy for the government," said Chris Weafer, chief strategist at UralSib, a Russian investment bank. "It is the state's company and its most important asset."

Many inside Russia don't even call it a company. When the Soviet Union collapsed, its Gas Ministry became Gazprom. A partial privatization left the state with 40 percent ownership of the company, which in 2004 it boosted to a controlling stake of just over 50 percent.

Soon after Putin assumed the presidency in early 2000, a little known bureaucrat named Dmitry Medvedev was elected chairman of the Gazprom board. Medvedev -- who later became Putin's chief of staff -- remained chairman until ascending to the country's presidency in May 2008, after receiving Putin's endorsement.

Today, Putin's first deputy prime minister, Viktor Zubkov, holds the chairmanship. The CEO is Alexei Miller, an associate of Putin's from his days in the St. Petersburg government in the early 1990s. Miller has no gas industry experience, and it is said that he is merely a figurehead.

Nearly a dozen top Gazprom managers served in the KGB or its main successor agency, the FSB, including its deputy chairman, Valery Golubyov.

"The relationship is very close" between the company and the state, said Dmitry Peskov, Prime Minister Putin's press secretary. "Although Gazprom is an international corporation, the largest shareholder is the Russian state. There is nothing strange in the fact that the relationship between the government and Gazprom is really very close."

That's a different line than the Kremlin was spinning in early 2001, when Gazprom led a forceful takeover of NTV, a popular television channel that was openly critical of the government. One satirical program it ran, Kukly (Dolls), was said to particularly irk Putin. The station's owner, oligarch Vladimir Gusinsky, agreed to sell to Gazprom following a campaign of armed searches by the FSB, a brief arrest and back tax claims. Gusinsky now lives in self-exile in Spain.

These days the station dutifully runs state-friendly coverage. Its takeover was seen by many as the beginning of the end for independent media in Putin's Russia.

Beyond its media holdings, Gazprom now has over 150 wholly or partially owned subsidiaries, including assets focusing on banking, satellite communications, hotels and spas, electricity and agriculture.

It is a sprawling behemoth that employs at least 500,000 people, finances schools and hospitals in the bleak region of Siberia and essentially subsidizes the Russian economy by providing industry and homes with cheap gas.

A move to liberalize domestic gas prices was curtailed late last year, as the financial crisis -- and the effects of an internationally unpopular war in Georgia -- hit Russia hard in September.

"It has many of the attributes of a company, like outside shareholders. It files accounts. It talks to investors. But the economics of what it does has very little resemblance to a profit maximizing firm," says Ian Hague, co-founder of Firebird Asset Management, a New York-based fund that invests in Russia.

Hague, a longtime investor in Gazprom, says he sold off his fund's holdings in the firm throughout 2008. "They have no ability to generate consistent positive returns for minority investors," he says. "They don't care. That's not their business."

"It is the deepest trough in the barnyard," he adds. "For employees of Gazprom, for people in the administration charged with supervising Gazprom."

Sergei Kupriyanov, the gas giant's spokesman, denies that. "Absolutely not. If someone has something to complain about, let them show us the proof," he says.

One man who sought to expose the lack of transparency inside Gazprom was William Browder, an American who heads Hermitage Capital Management, once Russia's largest portfolio investor. Browder was denied entry into the country in November 2005, on suspicion he posed a threat to national security. He has not been able to receive a visa since, and now lives in London.

Gazprom is by far Russia's biggest company, bringing in $70 billion in revenue in 2007 and taking a $14 billion profit. Yet it is also heavily indebted, to the tune of $49.5 billion and was included on a list of firms eligible for a state bailout.

Some analysts say this is, in part, what drove the firm to seek a substantially higher fee from Ukraine, prompting the dispute that left 18 countries freezing at the start of 2009.

Yet Gazprom still has enough money to run a private army. Kupriyanov acknowledges that the force exists, but declines to name its number.

It also has a sense of its own power. Gazprom officials have a favorite joke they like to tell on New Year's Eve. "Come round to our offices in the morning," they say. "We'll serve you Champagne. But Ukrainian style -- no gas."

Nabucco nightmare

















A Russian gas alliance with Azerbaijan could fatally undermine the EU-backed, 31bn cm/y Nabucco gas-pipeline project to import Caspian gas across the Caucasus and Turkey, and reduce dependence on Gazprom for supplies. Azerbaijan is the only country with the reserves and infrastructure in place to supply the pipeline (PE 2/09 p5). And despite the credit crunch, Gazprom is pressing ahead with plans to build its South Stream gas pipeline, across the Black Sea to southern Europe, which would head off competition from Nabucco.

But at the same time, Russia has delayed finalisation of a project to build a new pipeline to import extra gas from Turkmenistan, another Caspian producer targeted by Nabucco. Turkmenistan's president Gurbanguly Berdymukhamedov signed a number of economic agreements during a three-day official visit to Moscow in March, but left without finalising plans to build the Prikaspysky pipeline. Stern claims Gazprom might have difficulty absorbing even the 50bn cm of gas it has contracted to import from Turkmenistan this year.

Despite market weakness, Russia has not softened its approach to European gas customers. An EU proposal to help Ukraine modernise its aged gas-transit network, which carries 80% of Russian gas exports to Europe, was slammed by the Kremlin as "an unfriendly act" in March, as Putin threatened to end government-to-government talks with Ukraine unless Russia was included in the project.

The EU, the World Bank, the European Investment Bank and the European Bank for Reconstruction and Development have proposed to invest €2.5bn to improve the safety of the transit pipeline if Ukraine reforms the management of the system to eliminate corruption and red-tape bureaucracy. Ukraine wants investors to help increase capacity in the pipelines to underpin its long-term role as a strategic transit route to Europe. But after more than a decade of wrangling with Ukraine over gas prices and transit terms, Gazprom's policy is to build new export routes to bypass the country altogether.

The March delivery to Japan of a first cargo of liquefied natural gas from the Gazprom-led Sakhalin Energy project, in Russia's far east, provided a bright spot on the otherwise bleak short-term trading horizon. The shipment marked Gazprom's entry to Asian gas markets, a landmark in its plans to globalise its gas-trading business.