18:07 09.06.2020

Author OTTO WATERLANDER

Lessons of Gas independence for Ukraine

5 min read
Lessons of Gas independence for Ukraine

Otto Waterlander, Naftogaz Group Chief Executive Officer - Chief Transformation Officer

 

Ukraine remained for more than the decades strongly dependent on the supply of gas from Russia and on the transit of Russian gas to Europe. Those dependencies became a straightjacket when Russian leadership decided to use gas for political motives. 

Since 2014, the new management in Naftogaz together with government and international support broke the Russian dependence. Ukraine escaped from the ‘modern slavery’, that was created by old contracts with Gazprom, and secured new 5-years contract for gas-transport. 

What's next? How to move forward in securing supply for Ukrainian energy customers? 

How to secure Ukrainian energy/gas independence in the short-term and medium-term?

Some are pointing towards the Liquefied Natural Gas (LNG) market as the answer, there are now some 30 suppliers of LNG across the globe. Among others, the United States has significant ambitions to grow LNG exports and is eager to sell to Ukraine. 

Ukraine already is supporting the import of LNG in Europe, especially in Poland. Poland receives LNG at their terminal throughout the whole year, and transports the gas through pipeline to Ukrainian storage facilities. The Ukrainian spare capacity allows to store gas delivered in summer for use in winter. 

Should Ukraine act like Poland and embrace the direct import of LNG as well? 

Ukraine could invest to build a large import terminal at the Black Sea or use the route through Poland. However, having limited funds, Ukraine must decide if it should prioritize investment in its own new gas reservoirs or in large LNG facilities and infrastructure to bring competing gas? Asking the question is answering it!

The economic case for long-term 20-year LNG contracts in Ukraine proves difficult because it is unlikely that long term-contract will include a guaranteed discount versus European prices. 

The political case is equally difficult. While the USA may seem an attractive partner, does Ukraine really want to return to the era of dependence and enter in long term, inflexible, take or pay contracts? 

Ukraine has better alternatives. Firstly, Ukraine gas market today is connected very well with the European market and Ukrainian market prices now reflect the realities of the entire European market. Ukrainians enjoy a huge benefit as the gas prices more than halved over the past year, translating directly in lower gas-bills for all Ukrainians. Lower prices combined with mild winter resulted in the estimated benefit for all Ukrainian consumers of over UAH40 bn in Jan-May 2020. 

Interestingly, prices of long-term LNG volumes is some 50-100% above European market prices today. If Ukraine would have relied on LNG imports, the benefit to customers would be significantly smaller and gas prices higher. 

Ukraine does not need long term contracts to buy gas in Europe. 

Another alternative is to seek cooperation with Romania 

Romania has struggled to find export markets for a large potential production they (ExxonMobil) found in the Black Sea. Ukraine could import gas directly from Romania. Stronger integration of both Ukrainian/Romanian gas-markets would further help increase the security of supply of both countries. 

Romania has already proven its production potential and could start supplying much sooner than Ukraine (perhaps already in the coming 3-4 years) and Ukraine with its vast gas-storage possibilities could dedicate part of this to Romania in return. 

 Growing challenge for Naftogaz — to reduce dependence on gas imports, to increase production of Ukrainian gas and reduction of gas demand

Most of Ukraines proven gas reservoirs are already opened for production: 99% of Naftogaz blocks with proven reserves are into production today. Naftogaz, like all companies in the Oil & Gas sector, invest every year to counter that decline. In fact, about two-thirds of Naftogaz investments are dedicated to this cause. 

Therefore, Ukraine must find new reservoirs in order to grow gas-production. Industry prognoses of further resources of Ukraine amount to more than 4 trillion m3. This could triple the amount of resources Ukraine has brought into production to date. 

Investment in own gas can deliver an extra 3% GDP every year

Due to the war with Russia, the annexation of Crimea and part of Black Sea, doubts about rule of law in Ukraine and uncertainty about regulation, international oil & gas companies have now all-but-one left the country. 

Ukraine is therefore at its own to find and invest in new reservoirs. After new reservoirs are found, foreign companies may however be excited to come (back) to Ukraine: With less risk, a stronger case for investment can be made. 

Naftogaz and Ukraine should welcome those partners at that stage and be prepared to share some of the benefits of increased production with those that are willing to invest alongside with Naftogaz. This is because Ukraine needs much more investment capital than Naftogaz (or Ukraine) will be able to make available. 

Also Naftogaz’ role will have to shift to becoming an ‘orchestrator’ that leads the identification of new reservoirs, who undertakes the initial investments to prove their size and who brings on board experienced investors to accelerate production from those new reservoirs. Over the coming 10 years, Ukraine should attract some $2-3B investments, annually. With Offshore, this number should be higher even.

The Oil & Gas sector in this way may become one of Ukraine’s pillars of economic growth, delivering an extra 3% points GDP growth every year for the coming 10 years. An exciting perspective lies ahead! 

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