Naftogaz against Gazprom

It is too early to talk about gas peace between Ukraine and Russia

Against the backdrop of specific relations between Moscow and Kyiv – which are far-from-perfect – the gas issue has remained one of Russia’s main trumps since 1991. According to experts, Ukraine has already experienced three large-scale gas wars, and the confrontation is ongoing. The events of 2014, despite being a serious tragedy, have given Ukrainians a lesson on how to fight a very powerful enemy, on the economic front in particular. At that time, Russia tried to weaken Ukraine by raising the gas price, but Ukraine managed to promptly reorient to European hubs. Yes, it still was Russian gas, but it was bought in Europe. Our country had to overpay, but this enabled us not to make concessions to the aggressor. Having bounced back, Ukraine even managed to take the offensive and defend its position in the courts.

Ukraine’s Stockholm euphoria

The 2014 litigation between Naftogaz and Gazprom involved mutual claims amounting to about $125 billion, which threatened to bankrupt both companies. On 22 December 2017, Naftogaz declared that it had won arbitration against Gazprom in the gas supply case and had achieved a reduction of mandatory annual volumes in the future. In February 2018, the Arbitration Institute of the Stockholm Chamber of Commerce (Stockholm Arbitration Institute) obliged Gazprom to make an additional payment of more than $4.6 billion for undersupplying transit gas following the Naftogaz claim.

However, the implementation of the international arbitrators’ decisions appeared to be quite problematic. Gazprom was playing for time in every possible way, while Russia was putting pressure on Ukraine, threatening to terminate the supply and transit contracts. At the same time, Naftogaz emphasised the possibility of forced recovery of the funds and significant reputational losses to Gazprom. And though in theory the failure to comply with the arbitration decision was subject to penalties, in practice, the Russians were in no hurry to pay. Afterwards, Naftogaz again filed a lawsuit to Stockholm Arbitration against Russian monopolists. The Ukrainian company demanded a review of gas transit tariffs and to obtain reimbursements from Russia in the amount of $12.5 billion.

A bird in the hand of Naftogaz

In the second half of 2019, Russia’s Gazprom started to put pressure on Ukraine, yet again promising to suspend gas supplies from 1 January 2020 unless a new transit agreement was put in place by then. The previous supply agreement was due to expire on 31 December 2019. Repeated attempts of bilateral contacts and trilateral meetings of Russia, Ukraine and the European Commission on gas transit yielded no results. After all, on 30 December 2019, after several days of intense negotiations and months of preparation, Ukraine’s Naftogaz and Russia’s Gazprom signed a new gas transit contract for a period of 5 years and the mutual claims settlement.

According to the contractual terms, the contract can be renewed on similar terms for another 10 years. Gazprom committed to pump 65 billion cubic meters of gas through the Ukrainian natural gas transmission system in 2020, and a minimum of 40 billion cubic meters during 2021-2024, subject to a competitive tariff. In addition, the Russian side has agreed to pay Naftogaz more than $2.9 billion according to the Stockholm Arbitration decisions (money was transferred on 27 December 2019). Gazprom also dropped its $80 billion fine claim against the Ukrainian company, which they demanded under the terms of the 2009 contract which stipulated the principle “buy or pay”.

In turn, Naftogaz agreed to withdraw its $12.25 billion lawsuit against Gazprom and dropped its claims against the Russian company for the $7.4 billion fine issued against Gazprom by the Antimonopoly Committee of Ukraine. After the agreement was signed, each party declared its victory in the case. Naftogaz explained that “the continuation of the Russian gas transit through the Ukrainian natural gas transmission system will guarantee the receipt of $7.2 billion now, and not a hypothetical $12 billion in a year or even in 3-7 years.” According to the Minister of Energy and Environment Oleksii Orzhel, Ukraine could count on potentially winning in arbitration disputes against Gazprom only in three to five years, while during this time the domestic transmission system would stand idle.

Instead, Ukraine has received nearly $3 billion and the prospect of getting the same amount each year for the transit of Russian gas. On the whole, a new agreement with Russia allows Ukraine to retain the status of a reliable transit partner. Meanwhile, in Russia, the payment to Naftogaz by the decision of the Stockholm Arbitration Institute was called a drop in the bucket compared to the claims and potential risks. According to then Russian Vice-Prime Minister Dmitrii Kozak “the amounts could have been much higher.”

The battle is won but new ones are ahead

Despite the first steps towards an understanding with the Russian gas monopolist, Naftogaz still has a lot of work ahead. First of all, it still has proceedings on foot in relation to the matter of the energy assets expropriation during annexation of the Crimea by Russia. The arbitration proceedings were initiated in October 2016 and were reviewed by the tribunal of the Hague Permanent Court of Arbitration. In February 2019, a decision was made in Naftogaz’s favour. According to the judgement, the tribunal established its jurisdiction over the case and ruled that Russia had illegally expropriated the assets of the Ukrainian company in the Crimea.

The second stage of the arbitration proceedings will determine the amount of Naftogaz’s damages. In February this year, the company specified the amount of its losses and claims to recover as being $8 billion. This includes the value of the lost assets and the interest accrued on this amount since 2014.

Russia does not deny the illegal expropriation of Naftogaz’s and its subsidiaries’ assets in the Crimea, but claims that no compensation to be paid. The final decision on the amount of compensation is expected by mid-2021.

Meanwhile, Naftogaz chief executive Yurii Vitrenko said the company is considering submitting new claims to the EU antitrust authorities and a number of international arbitrations.

First of all, it relates to a claim to the European antitrust authority on Gazprom’s abuse of its monopoly position; an International Court of Arbitration claim in Zurich under a new transit contract and a claim to the Stockholm Arbitration Institute under the agreement between Naftogaz and Gazprom on the assignment of debt obligations of Rosukrenergo. As for the global gas market, it has undergone major changes in recent years. In particular, new powerful players, US companies, emerged in Europe which sell liquefied natural gas.

The Nord Stream-2 gas pipeline construction has stopped due to imposed sanctions, and the Russians have to pump gas through the Ukrainian gas transmission system. Recent experience has shown that life without direct contracts is not “the end of the world”; it is important not to panic and not to be intimidated. For this reason, Ukrainian companies that have finally realised that big business sharks and aggressive neighbours can and must be confronted should actively protect national interests. All problematic issues should, however, be resolved without litigation that lasts for years.

Ilya Tarasyuk is a well-known Ukrainian journalist whose articles have been published by leading Ukrainian business publications for the last 15 years. Specializes in economic and political topics. He graduated from the Kyiv-Mohyla Academy with a degree in Philology.