Russia demands Ukraine pay USD 486/tcm for natural gas starting April

Макроэкономика 04.04.2014 Russian Prime Minister Dmitry Medvedev cancelled a zero export duty for natural gas that is exported to Ukraine, he told to Gazprom CEO Alexey Miller on April 3, according to a Gazprom press release. The zero export duty was the reason for Gazprom providing a USD 100/tcm discount to Naftogaz, according to the Russian side, so now Gazprom can no longer offer the discount to its Ukrainian partner. Without the discount, the price of Russian gas to Ukraine for April is USD 485.5/tcm, Miller replied. The USD 100/tcm discount was also stipulated in the 2010 Kharkiv Accords, in exchange of Ukraine extending the lease of the Russian Black Sea Fleet by a quarter-century from 2017 to 2042. The Kharkiv Agreement was unilaterally cancelled by Russian side recently. The same day of Medvedev’s decision, Ukraine’s Energy Minister Yuriy Prodan said his government does not recognize the cancellation of the Kharkiv Accords and will calculate the price of Russian gas as if the discount is still in place (i.e., USD 385.5/tcm). “This is the price that can be discussed today. We would like to negotiate,” Prodan stated at his press briefing on April 3, according to Interfax-Ukrayina. He also updated journalists on the Naftogaz debt to Gazprom as of April: it amounts to USD 2.2 bln, including USD 0.8 bln for gas supplied in 3M14. Prodan also imperturbably stated that Ukraine is ready to take a loan from Russia to repay the gas debt (possibly referring to an initiative of Medvedev and Miller to provide a loan to Ukraine, disclosed on March 4). Meanwhile, Ukraine’s Finance Ministry disclosed on its website its calculations of Naftogaz’s (NAFTO) 2014 deficit (emerging due to low gas tariffs for utility companies) based on the various possible import gas prices. According to the provided presentation, Naftogaz’s deficit can be UAH 17.5 bln (at an imported gas price of USD 268.5/tcm during 2014), UAH 25.0 bln (at a gas price of USD 387/tcm since 2Q14) and up to UAH 33.2 bln (at a gas price of USD 487/tcm since 2Q14). These estimates do not include UAH 23.1 bln in accumulated losses during 2008-2013 and do not account for the expected increase in retail gas prices in Ukraine. Alexander Paraschiy: The core question for the Ukrainian economy remains what is the current average price for Russian gas. Ukraine’s strongest argument in negotiating prices is that the Kharkiv Accords should remain valid, as Russia has no power to unilaterally cancel it. Any changes to the agreement should be done by a special commission, thus requiring contact between Russian and Ukrainian authorities, which has yet to start. But Medvedev’s decision to cancel the zero export duty has shifted gas pricing issue from the inter-government level to the corporate one, where Ukraine’s position is not that strong. Our understanding is that in order to maintain the discounted gas price for Naftogaz, Ukraine now has to prove that the Russian government had no right to reimpose the USD 100/tcm export duty, which will be much harder to prove in court than the Kharkiv Accords still having legitimacy. Our base case scenario is Ukraine will come back to the pricing issue in May, when Gazprom will send its bill for gas to be supplied in April. Most likely, Ukraine will have to agree on the worst possible gas price from Russia. And Ukraine is seriously considering such an option, as we can tell from the Finance Ministry’s calculations of Naftogaz’s potential deficit. Thus far, the prospects of gas imports from EU countries this year are not yet clear, while we estimate they will not exceed 7 bcm in 2014. Ukraine will have to import an additional 22-24 bcm of gas by the end of the year, we estimate. Based on this, we see the average price of imported gas for Ukraine will be close to USD 334/tcm in 2014, and it will be on average USD 405/tcm for the rest of the year. An increase in domestic gas prices for Ukraine’s industries, which looks inevitable in the near term, will have a slightly negative effect on the profit of steel maker Metinvest (METINV), iron ore miner Ferrexpo (FXPO LN), engine maker Motor Sich (MSICH UK) and sugar maker Astarta (AST PW), while it will be clearly beneficial for domestic private gas producers: Serinus Energy (SEN PW), Regal Petroleum (RPT LN) and JKX Oil & Gas (JKX LN). We estimate Naftogaz will generate losses of UAH 16-19 bln this year from low gas prices (depending on the availability of the USD 100/tcm discount from Gazprom). Recall, Ukraine is going to refinance Naftogaz by only UAH 33 bln in 2014. After covering the 2014 losses, Naftogaz will have only UAH 14 – 17 bln (USD 1.3 – 1.6 bln) available for the repayment of its debt. But its obligations exceed this number by far: Naftogaz still has to repay USD 1.45 bln to Gazprom for gas imported in 2013, and it has to repay a USD 1.6 bln Eurobond in September 2014. These estimates suggest Naftogaz will have to seek for additional financing of about USD 1.5 – USD 1.8 bln to service all its current year liabilities. We believe that the probability of a new Russian loan is negligible in the current environment. Most likely, Naftogaz will have to count on extra support from the Ukrainian government or international institutions.