2015 actually wasn’t all that bad for Gazprom. The giant state gas company posted strong European delivery figures and it saw sizeable growth in both net sales and profit. Of course, for Gazprom, ‘bad’ – as a subjective and cursory metric of appraisal – has an entirely different meaning than it did, say a decade ago, when the company’s market valuation was more than $320 billion higher than it is today. Between the lines, Gazprom’s reliance on Europe has probably never been greater and the broader state of Russia’s economy looms large. To be sure, Gazprom has market-moving capabilities, but its largely reactive strategy leaves little room for error in an increasingly competitive 2016.
Taking a closer look at 2015, net sales to the Western European market (including Turkey) were up 17 percent through September 30 compared to the same period the year prior, driven by cheaper prices and ruble depreciation – revenue is down significantly in dollars. That offset declines of 4 percent and 2 percent in the FSU and domestic markets respectively. Measured by volume however, deliveries fell a combined 9 percent to Russia and FSU countries in the same period, and dropped nearly 5 percent overall, despite increased volumes to Western Europe. Westward growth remained strong in Q4, and by year’s end 2015 deliveries to the European Union and Turkey reached 159.4 billion cubic meters (bcm), up almost 9 percent from 2014.
One month in to 2016 the trends are largely unchanged. Demand for Russian gas is growing in its most key market. Gas exports to non-CIS Europe increased by 36 percent in January year-on-year to over 8bcm. Growth was particularly pronounced in Britain, Germany, and Poland, pushing Nord Stream utilization to greater than 70 percent. Notably, exports to the Turkish market rose 3.4 percent.
Glancing east briefly, market penetration remains a few years away from being a few years away. Gazprom has earmarked roughly $1.2 billion for construction of the Power of Siberia pipeline in 2016 – and is willing to proceed further without Chinese backing – but commodity prices remain well below Russia’s believed breakeven price for gas exports to China. Barring a quick market turnaround, Russian deliveries to the patient Chinese market are unlikely before 2021 at the earliest.
Looking ahead – and as the pivot returns west – Gazprom and Russia face a number of internal and external pressures. With its wait-and-see approach played out, and seemingly more self-aware than it has ever been, Gazprom may look to take a more proactive, albeit cautious, slant in 2016.
That starts with defending its European market share, which the company plans to keep at around 30 percent for the next two decades. Gazprom aims to ship a record 162.6 bcm to the EU and Turkey by the end of 2016, followed by a jump to 166.1 bcm in 2017 and 166.3 bcm in 2018. Toward that end, the company plans to boost production to approximately 480 bcm for the year, some 60 bcm greater than 2015’s historical low.
While Gazprom would like to avoid significant price competition, the company will not likely hesitate to undercut upstart US, and/or Australian LNG should it infringe upon its market pretensions. In fact, that strategy may be its only way to realize profits in the medium-term.
Gazprom estimates European prices for its fuel will fall to about $200 per thousand cubic meters ($5.45/mmbtu) in 2016, down more than 40 percent since 2014. However, it may need to go lower; the short-run marginal cost of US LNG is still very much competitive at that price. Just how low is something that Gazprom would rather not find out, though, it has the low-cost supply to push prices into the $4-5/mmbtu range, at least briefly. In any case, it’s worth it. Defending the price, and not the market share, could cost Gazprom some $25 billion in revenue over the next five years.
Internally, Gazprom faces pressure to maximize revenues for a struggling Russian government. For the first time since the latest financial crisis began in late 2014, a majority of Russian citizens have a negative view of their country’s economy, and most think it will only worsen. In response to middling domestic figures, Gazprom and its subsidiary Gazprom Neft are exploring ways to market Gazprom Neft’s increasing supply of gas at free market rates, something Gazprom itself is precluded from.
Gazprom has struggled to save face following its high-profile political moves in 2006 and 2009, but it has done reasonably well (read: only marginally better) to avoid mixing business and politics since. The degree to which those two forces mix in 2016 – and they will mix – is a crucial variable as Gazprom toes the line between subjection and self-determination.
First published at Oilprice.com