RUSSIAN ENERGY: RUSSIANS RETHINK SHTOKMAN

C O N F I D E N T I A L SECTION 01 OF 03 MOSCOW 011371

SIPDIS

SIPDIS

DEPT FOR EUR/RUS WARLICK, HOLMAN, AND GUHA
DEPT FOR EB/ESC/IEC GALLOGLY AND GARVERICK
DOE FOR HARBERT/EKIMOFF/PISCITELLI
DOC FOR 4231/IEP/EUR/JBROUGHER
NSC FOR GRAHAM, MCKIBBEN, MCCORMICK AND COEN

E.O. 12958: DECL: 10/10/2016
TAGS: EPET ENRG ECON PREL RS
SUBJECT: RUSSIAN ENERGY: RUSSIANS RETHINK SHTOKMAN


Classified By: Amb. William J. Burns. Reasons 1.4 (b/d).


1. (C) Summary. Gazprom's October 8 decision to reject
foreign equity participation in the giant Shtokman gas and
LNG project in the Barents Sea, in favor of developing the
field itself, reflects a growing trend towards energy
nationalism, and genuine concern about maintaining control of
such a key gas flow. Putin's impending trip to Germany may
have been a factor in the announcements timing. Our
companies and the others on the "short list" are taking a
low-key approach to the news, probably in part because
Gazprom insists it will use foreign firms for Shtokman as
contractors.


2. (C) Gazprom's decision to flip-flop the priority
destination for Shtokman gas from North America to Europe in
the first phase of development does not mark the abandonment
of the North American market. Most analysts believe these
moves reflect a growing acknowledgement of the gas supply
problem beginning to plague Gazprom's foreign (and domestic)
commitments. Amplifying this was Gazprom's decision on
October 6 to develop the supergiant Bovanenko field on the
Yamal peninsula that promises faster gas flows and quicker
payback. WTO undertones were markedly absent from the
official rhetoric surrounding these recent announcements.
End Summary.


3. (C) In a statement posted on the Gazprom website, Gazprom
CEO Alexey Miller indicated that the company would not bring
on foreign companies as partners in developing the giant
Shtokman field but would instead maintain complete control of
the project and contract out the work to willing firms.
Miller explained this move as resulting from the failure of
the foreign bidders to offer assets and activities for trade
that "correspond to the volume and quality of Shtokman
reserves." The statement goes on to say that Gazprom will
send the field's gas through the North European Gas Pipeline
(NEGP) as a priority over Liquefied Natural Gas (LNG)
supplies to North America.
.

4. (C) We canvassed the companies on the so-called "short
list". ConocoPhillips told us they had only discovered the
news on television the night before and as of October 9 still
had received nothing official from Gazprom and as such had
not developed an official position. Chevron said the same,
except that they have drafted some official talking points
welcoming whatever form of cooperation with Shtokman (and
implicitly other projects) Gazprom may deem appropriate. The
Norwegian embassy told us that their companies (Norsk Hydro
and Statoil) are "disappointed and frustrated" but are
keeping a low profile until the situation is clearer. Their
companies doubt Gazprom is capable of developing the field
efficiently alone and the embassy adds that the decision
heightens concerns the Norwegian government has about
responsible stewardship of the Barents Sea environment.
According to Vladimir Konovalov, head of the Petroleum
Advisory Forum (PAF),the companies he has spoken with seemed
to have been caught flat-footed and are still in assessment
mode.


5. (C) Other actors in the Shtokman drama had
similar/differing observations and analyses.

-- Gazprom itself told us officially on October 9 two points
that differ from the tone of the press coverage (but are
consistent with their website's words). First, there
"absolutely" will be a role for foreign firms, just not the
equity stake previously considered -- they will now be
"contractors". (By implication, this may well mean U.S. and
other foreign companies not on the longstanding "short
list.") Second, Gazprom stressed that the marketing strategy
for Shtokman gas will not change at all - some will go to
North America and some to Europe, as was always envisioned.

-- Konovalov's (PAF) sources in the government told him that
the giant cost overruns on Shell's Sakhalin-2 project gave
Gazprom a glimpse at how costly and lengthy the Shtokman
project might be. He continued that Russia's walk-back on
the project may be an indication that, rather than Shtokman,
the company may develop fields in Yamal and/or in West
Siberia, which Konovalov contends would be cheaper and
quicker. In fact, Gazprom's board on October 6 decided to
invest heavily in the supergiant Bovanenko gas field on the

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Yamal Peninsula that Gazprom calculates could be the major
new source of pipeline gas to Europe.
.
WHY NOW? -- FOUR POTENTIAL EXPLANATIONS
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.

6. (C) It is fashionable to attribute any Shtokman decision
to Russia's WTO ambitions. Gazprom has said nothing
officially about a WTO linkage, although obviously the
Kremlin has in the past calculated the two in tandem. If
this announcement were truly linked to WTO accession as many
observers surmise, then the GOR would likely have waited
until November before making an announcement on Shtokman,
given the schedule of current talks underway on WTO. The
optics of a November Shtokman decision would work better for
the Russians by allowing them to publicly hang this on an
inability to come to terms with the USG on the trade deal.
.

7. (C) If the WTO is a red-herring, or at least only one of
several factors, what else explains these actions? First,
senior Gazprom officials are beginning to believe (perhaps
mistakenly) that they have the technical wherewithal to run
the project themselves. The energy community in Moscow has
heard this from well-placed sources and the evidence now
seems self-explanatory. Learning by doing through LNG swaps
into the U.S., UK, and Japanese markets, they may now believe
they have the requisite "smarts." A solid year of learning
inside baseball from five of the world's best companies
probably amplified a self-confidence already brimming from
high prices and sudden stature on world stock markets.
Financial analysts in Moscow nonetheless roundly criticized
the announcement for the reasons that Gazprom is neither
technologically capable of solo development of Shtokman and
that Gazprom has foregone the chance to share financial risk
on what will be one of history's most expensive projects.


8. (C) Second -- and the most convincing reason to us --
recently our contacts have been telling us that Gazprom
officials are beginning to accept that the firm may face a
looming gas production crunch just as many (including the
IEA) have been predicting. If this "lightbulb" has gone on
at Gazprom, then the decision to switch priorities from LNG
to piped gas to Europe makes some sense. Gazprom has
long-term commitments and relationships there and, as Miller
said in the statement, the go-it-alone approach and the
prioritization of supplies to Europe are "an additional
guarantee of the long-term supply of Russian gas to Europe
and proof that the European market is the most important to
the company." Piping Shtokman gas to Europe had always been
on the original plan. In fact, even after Putin (in Paris)
hinted at sending more Shtokman gas to Europe by pipe, our
companies here took it in stride with one company rep telling
the Ambassador recently that they were "not concerned about
the comments in Paris because they are consistent with
longstanding plans."


9. (C) Third, Gazprom's Miller has long been used to
"advance" Putin's meetings with foreign leaders. The fact
that Putin is meeting Chancellor Merkel soon and that German
firms (E.ON and Wintershall) have significant stakes in the
NEGP lends credence to the idea that this announcement may
partly be a trial balloon to gauge foreign reaction as well
as to smooth the backdrop for Putin's trip to Germany. On
the other hand, vast conspiracy theories such as that
published in Kommersant's October 9 article about a major
turn away from the U.S. and the Comecon-like integration of
Germany into Russia's energy infrastructure strike most here
as imaginatively far-fetched.


10. (C) Some instant reactions we have heard also attribute
the announcements to the strong drift in Russian energy to
move away from foreign participation in big projects.
Although Gazprom is willing to work with the foreign firms as
contractors, such "resource nationalism" is probably
reinforced by the commercial calculation that foreigners
should not have a complicating say over the disposition of
Russian gas.
.
COMMENT
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.

11. (C) These reasons all coincide and amplify one another.
While the announcements are a blow to our companies'

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prospects, the project's daunting technological and financial
challenges coupled with the uncertain Russian environment
cushions the blow. Either way we do neither ourselves nor
our companies any favors by jumping into the fray with the
Russians, who would likely relish an opportunity to justify
their own decision to politicize Shtokman via a WTO linkage.
With the decisions made, the big operational questions are
whether Gazprom really has learned as much as it thinks it
has and, if not, how much of a delay this will entail. The
"diversion" of supplies to Europe directly impacts us, but
even that hardly merits more than consistent reminders to the
Russians that we welcome their LNG and are pleased that they
are learning how the overseas LNG market works and keeping
their options to North America open. Our most recommendation
is to maintain a professional tone in the interest of
securing a position in whatever form for our companies in
Shtokman and other LNG projects.
BURNS