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By John Helmer in Moscow

It was the the 19th century German politician Otto von Bismarck, who famously claimed that politics is the art of the possible — before he sent his armies to invade westwards.

To judge the outcome of this month’s “gas war”, initially between Russia and Ukraine, but then involving many of the East European states as well, Russia’s prime minister Vladimir Putin and his Ukrainian counterpart, Yulia Tymoshenko, have devised the politics of the impossible, thereby warming Ukrainian stoves for less cost, while earning Gazprom, Russia’s principal enterprise, more profit.

The details are being studied in Beijing by Chinese bank and oil negotiators, who have not yet to agree with Rosneft for supply guarantees and an oil-price and loan repayment formula to regulate the next decade of Russian deliveries of crude oil to northern China.

A purported text of the gas agreement, signed on January 19 by Gazprom and Naftogas Ukrainy, has been released to the press in Kiev, but Gazprom officials refuse to answer questions about the terms of the new contract. Denis Ignatiev, the spokesman for the company’s foreign relations, told 21st Century Business Herald that he cannot add comment or clarification to the official Gazprom statement, released at the time of the contract signing in Moscow, in front of Putin and Tymoshenko.

The Russian position is focused on defining the price of gas at Ukraine’s eastern frontier; establishing a formula for quarterly adjustments to this price for the remainder of this year; fixing the volumes of new gas to be delivered to Ukrainian consumers and to European customers for the quarter, and for the year; and to exclude commercial intermediaries upstream, between Gazprom and Naftogas, while allowing them downstream, between Naftogas and end-users in Ukraine.

Accordingly, Gazprom is careful to avoid stepping into the now highly politicized Ukrainian debate over the internal terms of supply, mix of new and old gas, and price at consumption. Russian sources see the clash between Tymoshenko and Ukrainian President Victor Yushchenko as confirming Moscow’s contention from the start of the conflict that the cause of the gas stoppage to Europe was Ukrainian in origin and motive, not Russian.

If that is accepted, the Russians now maintain, there is no substance to the Anglo-American complaint that Russia is an unreliable energy supplier, wielding its gas and oil as weapons against its adversaries.

The Gazprom statement confirms that “in the first quarter of 2009 the price of gas for Ukraine’s consumers will account for USD 360 per 1,000 cubic meters.” This represents the application of the 20% discopunt Putin and Tymoshenko announced after their negotiations at the “gas summit” in Moscow on January 17. By comparison with reports of Gazprom’s asking price of $280/thousand cm in December, the new price represents a 29% premium. It is a significant negotiating gain for Gazprom — if the earlier reports referred to a price at the Ukrainian border.

But this is limited for the remaining weeks of the first quarter. The volumes of new gas to be supplied by Gazprom for this period are not reported in the company statement. Instead, the statement refers to initial shipments, following the resumption of pumping on January 20, of 348.8 million cubic meters, “with 75 million cubic meters to be supplied to Ukrainian consumers.” For the whole of 2009, the Gazprom statement is more precise: “in 2009 the volume of gas supply to Ukraine will be 40 billion cubic meters. The volume of gas transit via Ukraine in 2009 will amount to 120 billion cubic meters.”

The Gazprom release concludes with the statement: “Ukraine is the last Republic from the former Soviet Union to have switched to market and absolutely transparent relations with Gazprom in the gas sector.” Ignatiev, and the company’s chief spokesman, Sergei Kupriyanov, have demonstrated the irony of the claim. By openly fighting each other, Tymoshenko and Yushchenko are making it a nullity.

Moscow-based analysts report calculations that are a mixture of private word from Gazprom executives, public statements by Ukrainian officials, and media speculation. Russian investment banks attempting to estimate the revenue and profit impact of the deal on Gazprom report the rough consensus that Gazprom will reduce the volume of gas supplied to the Ukraine for this year by up to a third, compared to the 2008 volumes. But this will be compensated on the revenue line by higher prices. The Russian calculations project profitability for Gazprom, so long as the price of oil rises, and remains above its current level of about $42 (West Texas Intermediate, Brent or Urals).

Victor Mishnyakov, UralSib Bank energy analyst, reports a revenue gain of $5.9 billion to Gazprom for the year, less $2.2 billion in increased transportation costs, if the oil marker price on which the gas price is fixed in the second and subsequent quarters is $70 per barrel. However, if the oil price remains below $47 per barrel, Mishnyakov calculates sales revenues from the Ukraine would not cover transportation expenses. “Considering that gas prices follow a lag of 6-9 months to the oil price, we estimate that average gas prices for Ukraine in 1Q09, 2Q09 and 3-4Q09 will be $357/thousand cm, $270/thousand cm and $210/thousand cm, respectively. After 2009, Gazprom’s financials and margins on the Ukrainian market are expected to grow, assuming a recovery in the oil price to our long term forecast of $70/bbl, an average European transportation tariff of $3.4/mcm per 100 km and a recovery in gas sales volumes to the Ukraine and gas exports via Ukraine to 2007 levels.”

Naftogaz Deputy CEO Ihor Didenko is reported to have announced that Ukraine would pay $360/mcm in 1Q09, and $270, $219 and $162 in Q2-Q4, respectively. He has said that Naftogaz would pull gas out of storage in Q1 – about 10 billion cm — reducing purchases from Gazprom from the typical 12 billion cm level to 5 billion cm in the quarter. Purchased volumes would then rise to 10.5, 12, and 12.5 billion cm, respectively, for Q2, Q3, and Q4.

Defending her role in the Moscow negotiations, and Naftogaz’s signature on the contract, Tymoshenko has been reported as claiming that the internal price of gas for Ukrainian customers will not vary on a quarterly basis, but will be fixed at $228.80/thousand cm for the whole of 2009. While she has not detailed what formula she has used, and comparisons with last year’s domestic end-user pricing are uncertain, Tymoshenko is making the pitch that she is lowering this year’s internal gas price. In 2008 the $179.50 border price for Urakine translated to $300-320/’000cm delivered with transportation costs and Naftogaz margin added. Some Ukrainian sources now claim that with transportation fees and taxes, the final price for Ukrainian consumption is likely to be between $230-240/thousand cm delivered to the plants.

Alfa Bank analyst Ronald Smith comments that “the announced prices are somewhat in conflict with previous reports that Ukraine would pay European prices in 2009 less a 20% discount. This formula works perfectly for the Q1 prices, where the European border price of $500/mcm, minus 20% and less approximately $40 in transit costs, yields the announced price of $360/mcm. All the other prices look too high. That same calculation shows that, as the reference oil price declines, Ukrainian prices for Q1-Q4 should be $360, $160, $103 and $100/mcm (assuming $40/bbl Brent for the next six months) instead of the announced prices.”

The price gap, on which Gazprom remains silent, may be the solution which the two sides quietly found to the Russian claims for repayment of Ukrainian debt arrears for 2008 — the issue which triggered the conflict two months ago. Gazprom refuses to provide an account of debts owed by Naftogas, or released by Gazprom this week. According to Smith of Alfa, “by our prices, Gazprom should realize some $7.3 bln from Ukraine in 2009, but by Naftogaz’s numbers Gazprom will get $10.1 bln, a nice $2.8 bln gap. Finally, we note that the full-year weighted average announced price of ~$228/mcm is 20% off European prices only if one doesn’t back out transit costs, which one should. In conclusion, by Naftogaz’s announced numbers it appears that Gazprom is actually receiving near European prices for its gas.”

Sentiment in the Russian stock market towards Gazprom’s profit prospects, as a result of the deal, has not been positive. The Gazprom share (GAZP:RM) had fallen almost 9% in the week before the deal was negotiated. It then dropped 0.5% in the day’s trading after the contract signing. It has continued to decline by 3% since then. Gazprom’s market capitalization has lost about $10 billion since the gas stoppage began.

International brokers are now urging investors to buy before Gazprom’s price recovers strongly. Alfa Bank’s assessment is that “it looks as if Gazprom did better in this settlement than we had originally thought.”

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