Russia-China Gas Deal…Maybe Later

Courtesy of The Financial Times, a look at the possibility of a strategic gas deal between Gazprom and the China National Petroleum Corp (CNPC):

As the global market for natural gas is transformed, Russia and its national champion Gazprom have found their long-term export strategy challenged. No longer able to rely on their core European market, the Russians are looking eastwards, where they have long been seeking a strategic gas deal between Gazprom and the China National Petroleum Corp (CNPC) that would provide an easily accessible market for gas from new fields in eastern Siberia.

Gazprom’s urgency to sign such a deal will reach a peak this year and not just because of its desire to develop those fields or the political and economic shifts in Europe. Rather, Russia’s gas giant must reposition itself for a new world in which gas supply is abundant, just as it faces growing rivalry from domestic competitors such as Rosneft.

After more than a decade of negotiations over a long-term pipeline and supply deal, Gazprom and CNPC could finally be ready to sign. Next month’s Winter Olympics at Sochi until recently looked like an ideal venue for an announcement but last-minute difficulties have yet again push the deadline back, to the second half of the year.

The deal offers a leap forward in Gazprom’s Eastern strategy, committing China to buying 38bn cubic meters (bcm) of gas a year through a pipeline from Russia. Although this is much less than initially proposed (up to 68 bcm) and is a quarter of what Russia sells to Europe, it is more than Russia could ever sell China in the form of liquefied natural gas (LNG), chilled and shippable alternative. The Asian market – Russia’s only source of gas export growth – is critical because nearly half of Russia’s budget depends on oil and gas revenues, and the Kremlin needs money badly and urgently.

There are two reasons to think Russia will do a deal as soon as possible. First, is the strong political push from the Kremlin. President Vladimir Putin wants to send a message to the EU, which continues to challenge Gazprom’s business model, and to the US regarding the strength of strategic cooperation between Russia and China. Second, Gazprom is seeking to protect its territory, not only from global producers but also from Rosneft and other Russian competitors.

China is aware of Russia’s predicament and could use it to press for the best deal on price and upstream equity shares. If it goes this route, the negotiations could stall again. Or it could go quickly for a strategic alliance, bailing out Russia now so as to benefit in the future. Beijing is likely to opt for the second choice for three reasons: growing worries about its urban pollution problem; its desire for leverage with Russia; and its hope of keeping Russian gas from instead being sold to Japan. Even so, energy-hungry China is hedging its bets, pursuing its own domestic unconventional production, plus pipeline gas from former Soviet states in Central Asia and new sources of LNG.

Recent moves in Moscow have put pressure on Gazprom from state-controlled Rosneft and independent producer Novatek. The gas export liberalization bill signed in early December breaks Gazprom’s longstanding monopoly on LNG exports, allowing in both Novatek and Rosneft. Each is eager to secure contracts with high-growth Asia-Pacific consumers, especially China. Novatek recently reached an LNG supply deal with CNPC itself, which was one factor allowing it to go ahead with its Yamal LNG project in the Arctic.

The deeper problem for Gazprom is its rivalry with Rosneft, which not only is actively developing its gas strategy on the domestic market, but also completed a deal with CNPC in October, giving the Chinese company an equity share in its East Siberian oil and gas field – something Gazprom has long refused to do. Rosneft has also hinted at the possibility of exporting gas to China by pipeline. Igor Sechin, Rosneft’s chief executive, has influence in the Kremlin and a successful track record of negotiations with China on oil deals. A determined push by Rosneft to claim the role of gas exporter to the East would be a disaster for Gazprom. In short, Gazprom cannot afford any more delays.

Meanwhile, Gazprom also faces mounting international competition. If any of the big Russian players are successful with their export projects, the biggest impact will be to reposition Russia as a credible future LNG exporter after 2017–2018, when exports would begin. Russia currently lags in LNG market share in Asia because it only has one liquefaction facility, Gazprom’s Sakhalin-2. Timing, therefore, is crucial. New supplies are expected to come on stream over the next decade from Australia, the US (including potentially Alaska), Canada, and offshore east Africa. All these projects are aimed at Asian demand. But that demand is not infinite, which reinforces the urgency for Russia to gain a foothold in the market.

Gazprom’s deal with CNPC will likely be done this year. That would not only be a huge victory for Gazprom but would also serve to dispel a perception that it has been the big loser in the North American shale gas revolution. With the Chinese deal in its portfolio, Gazprom (and Russia) would look like much more of a winner.

This entry was posted on Sunday, March 2nd, 2014 at 10:40 pm and is filed under China, China National Petroleum Corporation, Gazprom, Russia.  You can follow any responses to this entry through the RSS 2.0 feed.  Both comments and pings are currently closed. 

Comments are closed.

Wildcats & Black Sheep is a personal interest blog dedicated to the identification and evaluation of maverick investment opportunities arising in frontier - and, what some may consider to be, “rogue” or “black sheep” - markets around the world.

Focusing primarily on The New Seven Sisters - the largely state owned petroleum companies from the emerging world that have become key players in the oil & gas industry as identified by Carola Hoyos, Chief Energy Correspondent for The Financial Times - but spanning other nascent opportunities around the globe that may hold potential in the years ahead, Wildcats & Black Sheep is a place for the adventurous to contemplate & evaluate the emerging markets of tomorrow.