The Devil Is In The Details. How Will Naftogaz Be Unbundled?

On July 1, the Government finally made a long-awaited decision on the model of unbundling Naftogaz.

As I actively contributed to the development of various models, I beg to comment on this decision.

Pros

1. The main advantage is that this decision approves the strategic plan of division of the company. It sends the proper signal to both foreign partners and investors that reforms will go on.

2. Gas transmission and storage operators will be under the control of the Energy Ministry. As I reiterated, the main legal conclusion of the Energy Community Secretariat requested this, and the Government acquiesced.

3. Both the pipes and underground gas storage facilities will be separated from Naftogaz. We insisted on it from the very outset. When I was working at the Energy Ministry, I never heard any compelling arguments why Naftogaz should control underground gas storage facilities. Moveover, we claimed that it is one of key risks to market competition.

4. The decision lists an array of measures to launch proper corporate governance in current and future state-run companies of the sector. It will lead to more transparency of the sector.

Cons

1. The main drawback is that the strategic plan is out of context. I noted on repeated occasions that no decision on the gas transportation system of Ukraine may be made unless a comprehensive vision of oil, gas and electric energy market development is available, whereas the Third Energy Package establishes linkages between gas and electric energy markets.

When deciding on the future of the gas transportation system without knowing the future of Ukrenergo and assets of energy producing companies, we make the whole structure unsustainable, particularly with regard to the Ukrainian context.

Apparently, neither the Cabinet of Ministers nor the Energy Ministry has a general vision, therefore it was decided to determine the future of the transportation and storage system only.

2. Ukrgazvydobuvannia [Ed: Ukraine’s state gas producer] remains a part of Naftogaz.

I consider this one of key barriers preventing adequate development of the gas market. We always insisted that this company be separated from Naftogaz. We believe that the management of Naftogaz puts significant pressure on the management of Ukrgazvydobuvannia, which evidently jeopardizes free competition.

Unfortunately, the Government was not brave enough to separate Ukrgazvydobuvannia from Naftogaz. However, there are no legal barriers to prevent it. The Energy Community Secretariat recommendation against such a decision is nothing more than a recommendation and lacks sound arguments.

Controversial issues

The open-ended plan of restructuring Naftogaz – anchored to the time when the dispute between this company and Russian Gazprom is settled – carries major risks, while seeming legally undeniable.

Firstly, we don’t know for sure how long it will take to settle the dispute and when a final decision will be available. In the best case scenario, we will receive it by the end of next year, but it’s not for sure.

Secondly, Naftogaz will not be unbundled until this dispute is settled – therefore, it will remain a monopolist and continue to determine the main trends of market development.

In this regard I have only added to my insight that we need to hold open and independent election of Naftogaz management as soon as possible, because its current management was appointed based on a political quota.

I reiterate that I have nothing against the team of current CEO Andriy Kobolyev, but if the company remains a giant for an uncertain time, its managers should be elected fairly. If Kobolev is elected, no problem. I am in favor of independence of the company management and transparent contracts, so that we don’t have secret talks between Naftogaz and the ministries on the matters not relating to the energy sector.

Thirdly, the decision to divide the pipe and underground gas storage facilities is hasty. So far, no in-depth analysis is available on the pros and cons of such a decision.

Well, such an analysis may be undertaken pending the decision in the dispute between Naftogaz and Gazprom. As far as I know, the European Commission is ready to provide financial support for it.

Conclusions

The adopted plan to unbundle Naftogaz is apparently a middle-ground. It has both tangible advantages and drawbacks. The Government supported one of the key visions on the division of Naftogaz developed by our team.

However, the devil is always in the details. Ironically, the current management of Naftogaz generally benefits from this decision.

Firstly, unbundling won’t take place unless the dispute between Naftogaz and Gazprom is settled. The company will remain a leviathan for at least another year.

Secondly, Naftogaz keeps control over the main cash flow in the sector – in particular, over Ukrgazvydobuvannia.

Thirdly, decisions on the details of unbundling – for instance, which underground gas storage facilities will be transferred to a new company controlled by the Energy Ministry – will be made as we progress. A lot of them will depend on the institutional capacity of the Ministry to produce adequate and independent policies.

So far, I don’t see such capacity and commitment in the Ministry. What I see is that market actors try to replace the Ministry in policy development.

The Naftogaz team perseveres in its attempt to systematically ‘step in’ to the Ministry by appointing its insiders at key ministerial positions and publicly justifying the necessity of it. I think that the decision made on July 1 will significantly aggravate this struggle. The positions of Deputy Minister for Integration and his/her subordinates are vital. If Naftogaz-affiliated persons take them, unbundling won’t take place. Instead, they would try to keep the status quo as long as possible and raise resources for another political project. Wait and see.

Translated by Mykhailo Koriukalov

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