The price of Gazprom’s pivot to the east

Posted 17 December 2014 11:35 GMT

Gazprom’s much-vaunted turn to the east will come at a price. 

The Russian company needs $55 billion to develop the fields and infrastructure to send 38 billion cubic metres per year of gas to eastern China via the Power of Siberia pipeline, and even more to pipe West Siberian gas through the Altai region to China’s west.  

Redirecting Russia’s focus from Europe to Asia – at a time when Moscow’s political relationship with Brussels has grown increasingly sour – has won Russian President Vladimir Putin political points at home and secured important deals for Gazprom (see LNG exporters beware: China keen on more Russian gas, 9 December 2014). However, negotiations with China over funding have stalled.    

Gazprom has said its Eastern Gas Programme will cost $55 billion (based on June exchange rates). This includes construction of the 61 bcm/y Power of Siberia pipeline, as well as the development of the Chayanda and Kovykta gas fields. 

A Kremlin memo published in September said the section linking Chayanda in Russia’s Sakha region to Blagoveshchensk on the Chinese border will cost RUB 770 billion ($20.6 billion, based on September exchange rates). However, Gazprom does have some funds available. 

“With a cash pile of near RUB 1 trillion at end-June 2014 [according to Gazprom’s Q2 2014 report under international accounting standards], Gazprom, in our view, has the resources to build both pipelines,” Maxim Edelson, a senior director of natural resources at Fitch Ratings, told Interfax. 

“Gazprom has indicated earlier that it might raise money in the form of a prepayment from the Chinese for the Altai pipeline,” he added. 

Fundraising drive

James Henderson, of the Oxford Institute for Energy Studies, estimates the combined cost of the Power of Siberia and Altai pipelines could be $40-50 billion. 

Gazprom’s spare cash would not cover this, but some say the company could raise the money through project financing without serious problems. 

Henderson suspects that China National Petroleum Corp.’s (CNPC’s) withdrawal of an offer of advance payment means the Chinese are pushing for upstream equity in Gazprom’s fields. 

“At the moment it is an open question whether these pipelines can be financed – that is the one major risk to the Altai pipeline,” he said. 

In any case, CNPC is prepared to help pay – it is only the terms that are uncertain, Edelson said. “The CNPC prepayment issue is about the acceptable cost of funding for Gazprom, not about the willingness of CNPC to provide funding,” he said. 

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Advance or loan?  

Negotiations have stalled over what form any financing from CNPC for Power of Siberia will take. 

The Chinese company originally offered Gazprom an advance payment of $25 billion, as part of the negotiations over the price of gas delivered by the pipeline. That offer was subsequently rescinded. 

An advance would allow Gazprom to reduce the price of gas sold to CNPC. This would mean the Russian company would not need to take a loan and would therefore not spoil its debt/EBITDA ratio. 

However, if CNPC provides this money as an advance, Gazprom would have to classify it as a loan. The issue of which company should take out a loan – and spoil its credit profile – has caused gridlock, said Alexander Ivannikov, the first deputy head of Gazprom’s finance and economics department, in October. 

Western sanctions do not prevent Gazprom from raising capital in the United States, unlike its oil subsidiary Gazprom Neft or rivals Novatek and Rosneft. 

However, Russian companies are finding it difficult to deal with Western companies and banks, which are afraid of more embargoes being imposed in the future. This means Gazprom may have to source funding from Russian and Chinese banks.  

Falling oil prices may also be an issue because the contract to supply eastern China is oil-linked, Standard Bank oil and gas analyst Farid Abasov said. 

When the deal was signed earlier this year, the eastern route price was believed to be around $387 per thousand cubic metres ($10.53/MMBtu), according to Interfax calculations. 

A framework agreement has been made regarding supplies via the Altai pipeline, but a price has yet to be established.

Gazprom may save some funds as a result of the cancellation of the 63 bcm/y South Stream pipeline to Europe. 

However, the company had already provided almost half of the $4.66 billion of total investment for the pipeline over the past three years. 

The project may simply be diverted to Turkey and terminate at the Greek border, so cancelling the project in its original form may not save Gazprom much money.