MLex Comment: Review of Gazprom’s involvement in the Central European Gas Hub may go beyond competition law

Author: Kristof Lukovich
6 Aug 09 | 09:40 GMT+1

IN BRIEF
Gazprom’s plan to acquire a 50 percent interest in the Central European Gas Hub (CEGH) from current owner OMV is likely to involve energy policy and security of supply questions in addition to raising competition issues.

Gazprom’s plan to acquire a 50 percent interest in the Central European Gas Hub (CEGH) from current owner OMV is likely to involve energy policy and security of supply questions in addition to raising competition issues.

A thorough examination of the tie-up will likely highlight a wealth of wider concerns in a not fully liberalised gas sector, while political interests could risk clouding the competition law review itself.

After receiving a notification, expected within the next few months, the European Commission will closely scrutinise the nature of the gas sector in order to fully assess the possible effects of the deal and to determine whether the transaction would result in the strengthening of Gazprom’s regional dominance.

Russian hydrocarbons company Gazprom is active in geological exploration, production, transportation, storage, refining, processing and marketing of gas.

Russia supplies over 25 percent of the EU’s overall gas needs mostly through Gazprom, and the company produced near 550 billion cubic meters of gas last year which amounted to 17 percent of global gas production. Of this amount 185 billion cubic meters of gas was sold to Europe, excluding sales to Baltic countries.

In its Exxon, Mobil review (1999) the commission found that of the total combined proven gas reserves that could be sold in the EEA, Gazprom had control over 81.5 percent (29.01 trillion cubic meters).

The company has sought to increase its market share in the European gas sector by purchasing gas storage, marketing and power companies. And although not part of the current agreement, Gazprom and OMV also plan to carry out further joint storage projects in neighbouring countries, with the centre of operations being placed in Baumgarten, Austria.

Austrian energy company OMV’s gas branch is active in the exploration, production, transit, storage, and retail segments of the gas industry.

The subsidiary is a major trader and transporter of gas in Central and Eastern Europe and offers transit services for the transportation of gas through Austria to Italy, Slovenia, Croatia, Germany, France, Hungary and Slovakia.

OMV holds interests, among others, in Petrom’s gas activities, Adria LNG, Romanian Petrom, Turkish Petrol Ofisi and the Nabucco Gas Pipeline International.

- The importance of the Baumgarten hub -

Gazprom has been planning to buy into CEGH, the third biggest gas hub in Europe, since 2007. In the first versions of the agreement, Gazprom would have acquired a direct 50 percent stake in the company. In the most recent version, however, Gazprom itself will only gain a 30 percent share of CEGH, but Centrex Europe Energy & Gas AG, a wholly owned subsidiary of Gazprom, will acquire a further 20 percent.

This means that the company will in fact own 50 percent of the hub through which the gas supplied by the Nabucco pipeline will be transmitted.

Nabucco is an international gas pipeline project, which will enable the European import of Middle Eastern gas, linking Turkey with Baumgarten. In addition, a rival Russian project 'South Stream,' delivering Russian gas through Bulgaria – similarly to Baumgarten - is also planned.

It might give the commission food for thought how much the Nabucco and South Stream pipeline projects compete, if Gazprom has a controlling stake in the CEGH, which will serve as the destination point of both.

The fact that it is only the trading platform in which the company would acquire a 50 percent interest, the infrastructure remaining wholly owned by OMV Gas GmbH, could somewhat reduce regulatory concern.

Nevertheless, given the critical importance of Baumgarten in the supply of gas to Central and Eastern Europe and that there is an indication that the transaction could hinder the development of competition, the commission is likely to engage in a thorough regulatory review.

- Nature of gas trading platforms -

CEGH provides a platform for international gas trading at Baumgarten and “other bordering points of the Austrian network”, namely Oberkappel and Ueberackern. The hub serves as a crossroad in linking and connecting different gas transit pipelines coming from Italy, Germany, Slovenia, Slovakia and Hungary.

Natural gas trading hubs were defined in the commission’s GDF, Suez review (see here) as “liquidity instruments that provide services to facilitate exchanges between actors on a market”. They act in a similar way to stock exchanges, enabling market players to buy gas supplies or sell excess capacity in the short term.

There are two types of gas hubs, virtual and physical. Virtual hubs, such as the National Balancing Point in the UK, the Dutch Title Transfer Facility or the Italian PSV have no exact physical location, they allow the trade of gas that was “physically injected” into the national gas grid at any point.

Trade on physical hubs, such as Belgium’s Zeebrugge, Germany’s Emden and Austria’s CEGH requires the transportation of gas to and from different trading points or zones. These hubs are equipped with the necessary infrastructure to facilitate the transit of gas.

In GDF, Suez the commission stated that gas trading on hubs, in that case the Zeebrugge hub, constituted a separate product market from other national gas markets as it found that there was a significant difference in how “supply markets” and the hubs operated.

Supply markets usually involve fixed-term contracts and delivery locations most often chosen by the purchaser. Meanwhile, on the trading hub market “there is a more immediate meeting” of trade between the parties resulting in gas normally being delivered to the hub, and concern specific “arrangements governing access to the hub”.

Although this was stated particularly with regard to the gas sector in Belgium, it is likely that the commission would see similar characteristics in the nature of trading on the CEGH, and would therefore consider gas hub trading to form a distinct product market to national supply markets in this case as well.

- Critical information -

The operation of gas hubs is usually separated, both legally and functionally, from the supply or trade of gas to ensure the operators’ independence. This is important for the purposes of the non-discriminatory treatment of market players and the confidentiality of information regarding trading transactions.

Currently, the CEGH is operated by OMV, and Gazprom’s buy in could well mean that an independent operator would not be established; a step viewed as desirable for securing a competitive environment in the gas sector.

Regulatory scrutiny could focus on whether the information that the hub operator has access to, most importantly information regarding trading volumes, is confidential or sensitive. The commission will have to investigate whether this could be used to exert undue influence, and whether Gazprom could turn the information gained on competitors to help further strengthen its market position.

- Customer Foreclosure -

Gazprom’s long standing vertical relationship with OMV for the supply and the trade of natural gas may also come under the commission’s microscope.

The key question is whether, post transaction, Gazprom would be in a position, given it and OMV hold near dominant positions in their respective markets, to make the access to, and the sale of non-Russian gas at the Hub more difficult, or even impossible. Examining this aspect of the deal is vital, as there is no substitute for the CEGH.

To determine the likelihood and the possible effects of foreclosure, the commission will have to look at the conditions and difficulties competing gas suppliers face when dealing in the region.

Competitors at present already face significant difficulties that prevent market entry: currently most of the gas sold on the Hub is in fact Russian. For companies attempting to enter, or looking for alternatives to Russian gas, access to infrastructure in the region, most importantly pipe transmission capacity, has been an issue.

Although Gazprom seemingly would not have the ability to block competitors from accessing or trading at the hub, its involvement in Baumgarten could indirectly still make it even more difficult for third parties and therefore may risk adversely affecting the development of potential competition in a sector where the current competitive situation is already far from ideal.

- Alternatives to Russian gas -

Gazprom would appear to have little to gain in refusing the supply of gas to third parties as a result of the transaction. Nonetheless, as the company has no major competitor in the region, where alternative supplies are already hardly accessible and thus may already have the ability to act to a large extent independently, this is a possibility that the commission could explore.

Most Eastern European Member States rely heavily on Russian pipeline-transmitted gas. The absence of pipeline connections and the lack of liquefied natural gas (LNG) facilities block them from looking towards Norwegian, Algerian or intercontinental LNG.

Currently in these countries there are no realistic substitutes for the imported Russian gas; moreover, even with the necessary facilities, further difficulties are present, as the alternative suppliers could only compete with the Russian pipeline gas with major geographic restrictions.

By contrast, the commission in its Centrex, ZMB, ENIA review (see here), deemed Gazprom’s and the Russian state’s involvement in an Italian acquisition and creation of a joint venture unproblematic due to the availability of alternative natural gas sources in Italy.

- Opposition of interested third parties, Member States -

A significant interest from third parties should be expected; rival gas companies operating in countries that are supplied through the hub and other companies that produce gas as alternatives to Russian gas will most likely be among those concerned with Gazprom’s involvement in Baumgarten.

Whether Gazprom would be considered as an arm of an active Russian state is another delicate issue. The company is controlled by the Russian state through a 50.002 percent stake; it heavily influences company decisions, and focuses the company’s strategy on exporting gas to foreign countries on long-term contracts that “derive from intergovernmental treaties”.

Russia’s further involvement in the European gas markets may well be seen by some Member States as a threat. Of the potentially affected Member States, not many will however have sufficient interest alone to be willing to risk relations with Gazprom and Russia.

- Apparent problems in the gas sector -

Regardless, any gas deal, especially if involving Russian gas imports, has the potential to draw considerable interest from the commission, as it had previously found in its Energy Sector Inquiry that barriers to competition in the European gas market might be present (see the full readout of the inquiry here).

The liberalisation of the gas markets is not yet complete, as market entry is limited by the incumbents’ control of gas imports and long-term reservations in import pipelines, transit capacity is not used efficiently, access to necessary gas infrastructure is limited, and there is a lack of timely information on the market.

Depending on the depth and scope of the review, the commission could reveal further problems in the regional gas sector, especially within the Austrian gas markets.

And besides the internal problems, the EU’s dependency on imported gas remains a serious concern for EU decision makers.

Both external and internal issues could indicate that Gazprom’s involvement would not be viewed as a favourable event in the process of liberalising the gas markets or in increasing the safety of gas supply: two arguments the company can be expected to strongly contest, with the outcome possibly dependent on political will.