There Is 1 Clear Loser Between Russia and Ukraine

The conflict in Ukraine will hurt Gazprom in both the near and long term.

Mar 9, 2014 at 1:45PM

Russian gas giant Gazprom (NASDAQOTH:OGZPY) said in an annual meeting with investors in London this week that Europe will become even more dependent on the company's gas supplies in years to come. Gazprom's comments came as tensions over the crisis in Ukraine continue. While tensions have eased slightly this week, there are concerns over Gazprom's gas supplies to Europe that flow through Ukraine. However, any potential cut in gas supply will hurt Gazprom more than Europe, both in the near term and the long term. 

Europe more secure
In 2009, following contract disputes, Russia shut gas supplies to Ukraine, which ultimately affected downstream customers in Europe. Earlier this week, Gazprom said that gas supplies to Europe through Ukraine were normal. However, gas supplies could be affected after the company said that it will raise gas prices for Ukraine from the start of April as the country has failed to pay its debts.

Any disputes between Gazprom and Ukraine could lead to a shutdown of gas supplies to Ukraine, which will have an impact on supplies to downstream customers in Europe. But can Europe cope with that? Although some 15% of Europe's total gas imports come through Ukraine, the continent is lot more secured this time than 2009.

In 2009, the gas supplies were cut in January, the coldest month in Europe. Additionally, Europe wasn't prepared for such a cut at the time. However, this time things are very different. The cuts to gas supplies, if they happen, will be in spring this time. Also, this spring season in Europe follows on the heels of an unusually mild winter. As a result, Europe's natural gas inventories are at their highest levels. According to Reuters, central Europe, which relies heavily on Russian gas supplies, has sufficient inventories. It is the same case with Germany, Europe's biggest gas consumer.

In addition, the shale boom in the U.S. has meant that the country now has record natural gas production. This has freed up LNG shipments on the global market, which could end up in Europe in case there is a shortage due to Russian supply cuts.

Gazprom believes otherwise
Although the latest crisis has once again raised questions over Russian gas supplies to Europe, Gazprom believes that the continent will become even more dependent on its gas supplies in the next few years. Speaking at an annual meeting with investors in London earlier this week, Gazprom's deputy head Alexander Medvedev said that the company has increased its share in European markets because Europe's domestic production has fallen in countries such as Britain and Norway.

In 2013, Gazprom accounted for 30% of Europe's total gas imports, compared to 25.6% in 2012. While Europe heavily relies on Russian gas at the moment, events such as those in the Ukraine will likely prompt the continent to start looking at alternative sources for its gas supplies.

As I noted in a previous article, the U.S. should take this opportunity to further its geopolitical interests by removing restrictions on natural gas exports to its allies in Europe. The shale boom, as I noted before, has also freed up LNG shipments from Qatar and Australia, which could end up in Europe. While Europe might be relying on Gazprom right now for its gas supplies, the situation will change dramatically if Russia continues to use the company to further its geopolitical interests.

Additionally, Gazprom is not in a position to lose revenue from Europe. Gazprom relies on Europe even more than Europe does on the company. Europe accounts for about three-quarters of Gazprom's export sales, and Gazprom therefore stands to lose more in the long term.

The company will also lose in the near-term if there are any supply cuts to Ukraine. According to Natural Gas Europe, 55% of gas exports to Europe were shipped via Ukraine. If Ukraine's gas supplies are disrupted, Gazprom and Europe have the option to reduce Ukrainian share to a third and fully load the Nord Stream pipeline. But Natural Gas Europe notes that in such a case, Gazprom will only fulfill two-thirds of its contractual obligations. In other words, Gazprom stands to lose a third of its revenue in the near term if supplies to Ukraine are cut.

Leveraging state-run companies
State-run natural resource companies have always been used for political gains. However, invariably, such moves have ended in a disaster for the company. Remember PDVSA of Venezuela and Pemex of Mexico? 

More recently, the Brazilian government has used Petrobras (NYSE:PBR) for subsidizing fuel in the country. The result has been a weakening Petrobras. The company is the world's most indebted oil and gas company. Only a few years ago, Petrobras was seen as the next big thing in the oil and gas sector. However, the company has failed to live up to the expectations, thanks to some disastrous energy policy. Contrast this with BP Plc (NYSE:BP), which was written off after Gulf of Mexico oil spill but has managed to make a strong comeback in the past year.

Europe may be relying heavily on Gazprom at the moment, but the shale boom has changed the dynamics of the global energy market. Europe now has alternative sources for its gas supplies and can secure its energy needs even more if the U.S. removes restrictions on gas imports. Gazprom, therefore, stands to lose more if Russia continues to use the company to serve its geopolitical interests. The conflict in Ukraine will hurt Gazprom in the long-term, as well as potentially in the near term.

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Varun Chandan Arora has no position in any stocks mentioned. The Motley Fool recommends Petroleo Brasileiro S.A. (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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