Gazprom has for several years expressed interest in the Western European electrical power sector. The news as to the proposed organization of a power plant in partnership with German energy company RWE indicates Gazprom will be making tangible efforts to enter this market. Researchers say Gazprom will get a new gas sales channel by setting up the JV and will be able to build an integrated technical chain from gas production to electricity distribution. They also suggest Gazprom plans to strengthen its positions in Western Europe and could also expand to Eastern Europe in times to come but is still not likely to have a serious share on the Western European power market even in the long-term.

Gazprom has held talks on cooperation with several E.U. corporations, including E.ON of Germany, the biggest customer purchasing Russian gas, and Enel of Italy, but has had no success. At this time, the Russian gas giant only operates the Kaunas thermal power plant in Lithuania that has already been responsible for losses to the company.

This July, Gazprom and RWE reached an agreement on a strategic partnership in power generation in Europe. The framework provides that the two companies will consider setting up a partnership composed of existing or newly-built gas and coal power plants in Germany, the U.K., Belgium, Holland, and Luxembourg. Researchers believe the move might be considered Gazprom’s first real effort at entering the E.U. electrical power market. The power industry is one of Gazprom’s number one targets in Europe. “Given latest choices by the German executive to rein in all nuclear power programs, we see great prospects for the development of new modern gas-powered power plants in Germany,” Gazprom Manager Alexey Miller declared after signing the agreement.

Right after explosions at Japan’s Fukushima-1 nuclear plant in March, the German government began implementing the program of phasing out the country’s nuclear facilities by 2022.

As of early 2011, nuclear plants generated 23 percent of the total power produced in Germany, and professionals previously said that closing down the atomic stations would lead directly to a higher requirement for gas supplies in Germany.

Gazprom announced that it was prepared to take an equity position in Western European power assets operating on gas, including in Germany, and calculated that Germany’s call to shut nuclear plants would create the need for importing another 15 to 20 billion cubic meters of gas every year. The signed agreement is also quite lucrative for RWE. It might secure safe and competitive gas supplies for RWE, the corporation’s chairperson Jurgen Grossman noted after signing the document.

In a recent story published in Der Spiegel, Mr. Grossman indicated that the company was considering selling a strategic stake to Gazprom. Market researchers reacted constructively to Gazprom’s plans to go into the Western European electrical power market by potentially setting up a partnership with RWE.

 “Gazprom is looking to diversify its assets and cash flow and is also anticipating getting a global image by carrying out projects in Europe,” said Konstantin Reyli, a senior researcher covering power resources at investment company Metropol. Additionally, Gazprom has an interest in making a total technical chain beginning from gas exploration all the way to the production of power. Gazprom also will be capable of finding a new sales channel for its products, Reyli commented. The researcher stated that it was hard to predict Gazprom’s income from entering the Western European market, noting that power costs in Europe were awfully uncertain and that Gazprom’s investments could bring no return. “It is logical for Gazprom to go into the Western European power market, as Gazprom is a big gas producer and has an interest in building an integrated technical chain from production and transport of gas to sales of electrical power to consumers,” noted Sergei Pikin, director of the Energy Development Fund. Additionally, the contemplated transaction provides to Gazprom opportunities to diversify business and increase its margin on the Western European market, Pikin noted.

“For Gazprom, this offer presents unexplored market prospects for gas sales as well as for achieving its stated objective of accelerating its actual exposure to power generation in Europe,” researchers at VTB Capital announced, commenting on Gazprom’s signing the agreement with RWE. The deal is consistent with Gazprom’s long-term methodology envisioning the gas giant’s expansion onto the E.U. power market, researchers at UralSib Capital noted, adding that Gazprom would be in a position to insist upon assured gas purchases both by existing and future thermal power plants.

Furthermore, RWE is a 17-percent participant of the Nabucco pipeline project and is the sole German company taking part in the project. Hence, being a partner of RWE, Gazprom will be well-placed to have some influence on the execution of the pipeline project, the market researchers said. (Gazprom holds fifty percent in the South Stream project, a competitor of Nabucco, that envisions the creation of a pipeline for the transport of Russian and Central Asian gas to Europe.)

The partnership with RWE is also anticipated to permit Gazprom to gain a presence on the E.U. power market and increase its share of the market in Germany after the shutdown of nuclear facilities, the researchers at UralSib Capital said.

Gazprom has an interest in implementing electrical power projects, mostly in Germany, and was targeting exactly this market, noted Mr. Reyli from Metropol. The company plans to reinforce its positions in Western Europe and is enthusiastic about building power facilities in Eastern Europe. That task, of course, is of lesser significance, the researcher noted. “Cooperation agreements with other E.U. electrical power companies are a possibility, but right now Gazprom plans to target cooperation with RWE,” Mr. Reyli indicated. Researchers also don’t expect Gazprom to acquire any significant share on the Western European power market after beginning to collaborate with RWE. The size of the Western European electrical power market is great, and Gazprom is now anticipated to implement only a few isolated projects. It is not expected that the company will have a large share of the market, Mr. Reyli from Metropol added. “Gazprom is anticipated to increase continuously its share on the E.U. electrical power market, but it will be doing so carefully and will not acquire a heavy share in the mid- and long-term,” the researcher claimed.

Commenting on Gazprom’s desire to expand its presence on the Western European power market, Mr. Reyli noted that it would be hard for Gazprom to develop its presence on the market if the fiscal situation of Western European power companies improves, as in this case there would not be any companies wishing to sell their assets, or the cost of the assets will simply be exorbitant. If the situation of the E.U. power corporations does not change, then Gazprom could make some more acquisitions, the analyst said. Researchers also think that Gazprom is not likely going to present serious competition to European power corporations. “The E.U. power system is a regulated system, and Gazprom isn’t likely to implement an assertive policy of expanding its presence on the market,” Reyli claimed.

No details about the suggested partnership are known yet, but experts assume the collaboration will be established on a parity basis and will target building power facilities operating on gas, as Gazprom has an interest in expanding gas sales. “Gazprom will probably be prepared to agree on setting up the JV on a parity basis, but with RWE having an advantage in making decisions,” indicated Mr. Reyli from Metropol. Actually, the sides are predicted to sign an investor’s agreement, which would outline the responsibilities of the parties. Pikin from the Energy Development Fund also believes the corporations will form the JV on a parity basis. Gazprom has frequently asserted that it wouldn’t join as a minority investor in a JV with Western European firms. The Russian company does not intend to have a controlling stake or a stake close to controlling, the expert observed. Gazprom may inject either funds or long-term liabilities for gas supplies into the partnership, Mr. Reyli from Metropol observed. Gazprom could agree to provide more flexible conditions of gas supplies as an element of the deal, Pikin from the Energy Development Fund commented. The JV is still subject to antitrust approval, and the German antimonopoly service has said that it will look at the deal.

Gazprom is anticipated to act concurrently as a fuel provider and a seller of the final product, and the antitrust body could impose some conditions on the suggested deal, Reyli from Metropol noted. The deal doesn’t present a legal problem from the view point of the E.U., Mr. Pikin from the Energy Development Fund explained. Mr. Reyli from Metropol further said the sides only had plans to study setting up collaboration. Gazprom’s talks with Italy’s Enel and Germany’s E.ON resulted in no certain projects, the expert reasserted. RWE might not be happy with the conditions that will be offered by Gazprom, and in this situation cooperation with RWE will bring no results.

Still, RWE has a significant debt burden and will likely be forced to find a strategic partner, the researcher hypothesized. RWE’s current debt is estimated at EUR 27.5 bln., its net profit is falling, while power costs don’t balance the growing expenditures on fuel. By working together with Gazprom RWE will also get regular fuel supplies, Mr. Reyli concluded.