Gazprom is a bellwether of Russia's constraints and divisions. The natural gas behemoth dominates its sector in the Russian economy and is one of the Kremlin's favorite foreign policy tools. However, the company has had to alter its strategy quickly and often to adapt to divisive politics at home and changes in energy sectors and markets abroad. One of its current strategies — to cope with shrinking demand from Europe, its largest export market, by sending more supplies eastward — is encountering problems. The company is running out of funds to complete its eastward-looking projects. Gazprom's rivals in Russia will use the company's financial difficulties as an opportunity to break the giant's hold on the Russian natural gas sector.
The Soviet government created Gazprom during the dissolution of the Soviet Union to protect energy assets on Russian soil. One of Russia's first major private joint stock companies, Gazprom spent most of the 1990s struggling against other energy firms and political cliques to maintain its dominance over the energy sector. When Vladimir Putin became president, he launched a program to create national champion firms and put the most strategic companies in the country back under state control. Gazprom became Russia's natural gas champion. During the next 10 years, Gazprom consolidated much of Russia's natural gas sector under its control and expanded into the oil sector. Currently, Gazprom controls 73 percent of all natural gas production in Russia and nearly all of Russia's natural gas exports.
Its control over exports gave Gazprom a great deal of power in negotiations with its largest customers — Europe and the former Soviet states, which consume some 66 percent of all of Gazprom's natural gas production. Moreover, the company became an important foreign policy tool for the Kremlin. Customers friendly with Russia got more favorable terms, and the company cut supplies to some states, such as Ukraine, when their relations with Moscow soured. Gazprom's position reflected Russia's overall strength at the time.
However, as time passed, Gazprom's politicization forced many of its customers to push back. The European Union enacted laws to break down Gazprom's effective monopoly on members' natural gas markets and began building infrastructure to diversify away from Russian natural gas. This pressured Gazprom to change how it operates. To maintain its Western customer base, in recent years Gazprom has offered more customer-friendly contracts and made fewer threats to cut natural gas supplies.
Now, relations between Russia and the West have deteriorated further. Moscow's support for separatists in Ukraine led the United States and the European Union to impose sanctions on Russia. Gazprom's subsidiary Gazprom Neft is under sanctions, which have prevented it from moving forward on its shale oil project with Western energy major Royal Dutch/Shell. Though Gazprom itself is not under sanctions, the overall chill in relations between Russia and the West has left the company's position in Europe even more in question.
In addition, low energy prices and a warm winter in its export markets led Gazprom's revenues to fall 10 percent in 2014 and another estimated 21 percent in 2015. At the same time, Gazprom has struggled to find international financing and foreign (particularly Western) partners for its many large projects, forcing the firm to dig deep into its pockets to cover costs. Where Gazprom had a steady profit line of $35 billion to $40 billion for years, its profits fell to $4 billion in 2014 and are expected to climb to only $15 billion this year.
Gazprom has banked its future on diversifying its customer base by sending natural gas eastward, primarily to China. In September 2014, Russia began construction of the Power of Siberia pipeline. Russia has also begun developing the Chayandin and Kovykta mega-fields. These projects are meant to help Russia start shifting exports eastward by 2018. However, troubling signs are emerging. Gazprom was supposed to receive a $25 billion pre-payment for natural gas supplies and another $24 billion loan from China for the Power of Siberia pipeline starting in 2014, but the funds are just now being released and Russia has not yet received the full amount. With its ability to raise funds from Western markets limited, Gazprom has asked Moscow for money to support its large energy projects, including those intended to send supplies eastward. Gazprom's request is currently under debate in the Kremlin.
Rumors surfaced over the weekend that Gazprom is in talks with an independent Russian energy firm, the Irkutsk Oil Co., to contribute natural gas to the Power of Siberia pipeline once it is complete. Unnamed sources claim that Gazprom will not be able to get its Siberian mega-fields up and running in time to supply Power of Siberia because of shortfalls in both cash and technology. The eastern fields and the pipeline are expected to cost more than $70 billion over the next few years — cash Gazprom does not have. Moreover, the fields are difficult. Gazprom had planned on bringing in a Western partner to contribute the technology needed to develop the fields, but with most Western firms dodging investment and partnerships in Russia, Gazprom could be forced to rely on its rival Russian firms to fill the Power of Siberia pipeline to Asia.
This is exactly what Gazprom's Russian competitors have wanted. Many of these firms have lobbied for an end to Gazprom's monopoly on piped natural gas. Gazprom's rival natural gas producers have had to provide the domestic market with subsidized natural gas, and they long for the opportunity to sell natural gas at higher prices. Many of these firms operate in regions outside of Gazprom's primary production base and could be closer to certain export markets. Thus, Gazprom would have to invest in new infrastructure to expand into these areas to compete with these other firms.
The Kremlin has been loath to end Gazprom's monopoly because of its usefulness in Russia's foreign policy. But preserving Gazprom's hold on natural gas exports has outlived its use for Moscow. It is now more beneficial for the Kremlin to break up Gazprom's export monopoly in order to improve relations with Western natural gas customers who have lobbied for such action. With more exporters to choose from, Russia's energy customers could negotiate with competing Russian firms for the best contract, and Russia would be able to maintain its customer base.
Naturally, Gazprom's rivals in Russia — particularly LUKoil and oil giant Rosneft — would like a further breakdown of the monopoly: the creation of an independent natural gas exporting firm, which would divide Gazprom. Momentum appears to be building within the government for such a change; the head of the Federal Anti-Monopoly Service has opened an investigation into the issue, and Rosneft chief Igor Sechin said he was in talks with the government over the future of the Russian natural gas sector. Evolving energy markets, financial and technical constraints, and continued struggles among members of Russia's energy elite will force Gazprom to change its behavior — if not its entire structure — in the coming year.