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Gazprom Price Retreat Offers EON Hope as Euro Crisis Cuts Demand

Gazprom Price Retreat Offers EON Hope
The price cuts will allow Gazprom to be more flexible when prices are high, eating further into revenue when price fall, Alfa Bank said. Photographer: Andrey Rudakov/Bloomberg

OAO Gazprom’s decision to cut prices for five customers signals a weakening position for Russia in Europe’s gas market as the economic crisis erodes energy demand.

Russia’s gas-export monopoly said yesterday it revised the price formula for clients including Germany’s Wingas, GDF Suez SA of France and Sinergie Italiane Srl to reflect “changing gas market conditions.” Germany’s largest utilities EON AG and RWE AG are embroiled in arbitration with Gazprom over prices and volumes after losing billions of euros buying fuel at above-market rates.

“Gazprom is ready to give in on some conditions and grant a price discount to some of its counterparties in order to preserve its market share,” said Pavel Sorokin, an oil and gas analyst at Alfa Bank in Moscow. “The gas-market reality is quite harsh.”

The European Union buys about 25 percent of its gas from Russia, typically on fixed-term contracts linked to the price of oil. Warmer-than-usual weather and the economic slowdown caused by Europe’s debt crisis have seen day-to-day prices fall to about 20 percent less than Gazprom’s average contract price. Yesterday’s decision was a sign the Russian supplier is under pressure to give ground as the shale-driven boom in U.S. gas production drives additional supply in the Atlantic to Europe.

‘Price Correction’

Gazprom sold less gas last year in Germany, Europe’s largest economy. Imports of Russian gas into Germany in the first 10 months of 2011 fell 3.7 percent compared with the same period a year earlier, according to data from Germany’s economy ministry. Imports from Norway dropped 3 percent while Dutch imports declined 0.2 percent.

“Gazprom Export reached and formalized agreements with several major customers in Europe, providing for a certain price correction of the Russian natural gas supplies,” Gazprom Deputy Chief Executive Officer Alexander Medvedev said in a statement yesterday. The revisions reflect “the changing gas market conditions in Europe and the state of play in the economy.”

Gazprom didn’t adjust the extent that spot prices affect its tariffs, two officials at its export unit said, declining to be identified because commercial arrangements are private.

The discount, which will be applied retroactively, probably averaged 10 percent and covers about 23.5 percent of Gazprom’s total sales to Europe, Sorokin said in a research note today.

‘Not Tenable’

Prices for the day-ahead at the Dutch Title Transfer Facility, a hub for European gas trading, averaged 22.66 euros a megawatt-hour last year, or about $319 a 1,000 cubic meters. That compares with Gazprom’s average export price of about $390 a 1,000 cubic meters. The TTF day-ahead contract traded at 21.25 euros ($27.06) yesterday.

“Gazprom has accepted that the status quo is not tenable,” Jonathan Stern, chairman and senior research fellow at the Oxford Institute for Energy Studies, said in a phone interview from London. “They’ve not yet accepted the need to move to hub-based pricing.”

While the details of the deals are confidential, Stern said Gazprom may have reduced the base price in the contracts, rather than increased the link to spot gas prices, as it did in a deal reached with Verbundnetz Gas AG in December. Yesterday’s decision will be a “fillip” for EON and RWE, Stern said.

The Moscow-based company is in arbitration with EON Ruhrgas AG, RWE AG’s Transgas unit, Erdgas Import Salzburg GmbH and Poland’s PGNiG on review on long-term prices, according to a bond prospectus released in November.

Arbitration Proceedings

Gazprom Export continues an “exchange of opinions” on a settlement with other partners, including those who started arbitration proceedings, the unit said today.

EON said in November falling spot prices for natural gas trimmed earnings from its wholesale business by 800 million euros in the first nine months of the year. Still, EON and RWE may have to wait before getting a better deal from Gazprom, JPMorgan Chase & Co. said.

“We found it interesting that none of the companies that are in arbitration with Gazprom have settled,” Nadia Kazakova and Andrey Gromadin, analysts at JPMorgan, said. “We assume these largest customers are looking for a fundamental long-term solution to the pricing/volume issues, rather than one-off settlements.”

A boom in output of gas trapped in shale rock in the U.S. removed its need for imports. That’s driven cargoes of liquefied natural gas toward Europe. Imports of gas on tankers have risen as a proportion of European supply. In 2010 almost one quarter of EU net gas imports were LNG compared with 19% of the total in 2009, according to the International Energy Agency.

The price cuts will allow Gazprom to be more flexible when prices are high, eating further into revenue when price fall, Alfa Bank said.

“It should also help avoid conflict and arbitrage,” analysts led by Sorokin said in the note. “The extent to which Gazprom will have to give in to other counterparties is still unclear.”

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