The share of the Russian market held by independent gas producers is expected to increase to well over 30 percent in the year 2016, according to the deputy director of the pricing and economic analysis division of Gazprom Vasily Smirnov. Within the last five years, independent producers came to account for 24 percent of overall production, up from only 15 percent of the market that they comprised earlier.

Lev Feodosyev, who is Novatek’s director of sales, recently indicated that the Russian government was sending out equivocal messages in relation to where the gas market was heading. According to Mr. Feodosyev, market regulations are in a state of constant change, especially as it relates to pricing. Of particular concern to Mr. Feodosyev are the Federal Tariff Service’s (FTS) plans to authorize Gazprom to sell its gas with a discount of as much as 20 percent of regulated prices. Novatek’s managers believe that authorizing a discount of this magnitude would not be warranted.

Besides, there does not appear to be too much clarity with respect to the government’s plans of deregulating gas prices and instead regulating transportation rates. According to the Novatek executive, independent producers would like for the regulator to set different rates for gas delivery to residential consumers and for commercial users. The differentiation is necessary for purposes of eliminating the subsidies given to certain categories of customers, some of which are as high as 30 percent.

For his part, Gazprom’s Vasily Smirnov stated that the Russian gas monopoly does not in principle oppose the introduction of a target price system, as long as it is fair to all industry players. In that respect, it is clear that the independent producers are not active in the areas of the country where profit margins are not high. As such, 71 percent of Novatek’s sales came from high-yield market areas, and 26 percent from medium-yield markets. Only three percent of the concern’s sales were generated from company operations with a low margin. The picture for Gazprom is qualitatively different, as a mere six percent are derived from sales in high-margin markets, 46 percent in medium-margin market, and a whole 36 percent from low-yield areas. In addition, approximately 12 percent of the company’s sales result in losses.

Instead, Gazprom has advanced a proposal to impose upon independent producers the requirement of supplying gas to households proportionally to their deliveries to commercial entities in the same region.

Gazprom itself is bound to shoulder the social responsibility of supplying residential customers, even though its prices are nearly 20 to 25 percent less than those charged to commercial end users. According to Mr. Smirnov, the obligation to supply residential areas should be assigned to independent producers. As an example, Mr. Smirnov cited a hypothetical where a particular independent producer supplied 20 percent of commercial consumers in the region of Tula. In line with Gazprom’s logic, the independent producer in the example would have to supply 20 percent of the region’s households. While Gazprom’s proposal is now on the table, at this time, industry analysts do not know as to how the measure may get formally introduced.

Currently, independent gas producers provide gas to residential areas in three regions. Novatek, for its part, delivers gas to consumers in both Kostroma and Chelyabinsk. Rosneft’s daughter company Itera provides nearly all gas in the Sverdlovsk region, where it services both commercial and residential customers.

At an earlier point in time, Russia’s Prime Minister Dmitry Medvedev said that independent gas producers operating within particular regional markets were bound to involve themselves in local gasification projects.

As for Gazprom, the gas giant has partnered up with regional governments in pursuing gasification initiatives, including the construction of gas lines from one town to the next. In turn, the regional authorities would take it upon themselves to lay gas street networks and get the households ready to receive individual deliveries.

On another note, the head of Gazprom’s pricing department Elena Karpel stated that the company’s profit margins from marketing the gas supplied for domestic consumption will not exceed three percent before 2016. As such, Ms. Karpel suggested that Gazprom went back nearly 16 years in its approach to pricing for the domestic market. In 1996, gas prices were based on the prices of industrial goods. In the following year, 1997, gas prices were fixed for a term of three years, all the while industrial products costs in Russia increased some 140 percent. After the price freeze, the increases in the rates exceeded inflation, which effectively meant that the steps Gazprom took did not limit the adverse effect from the rates’ not being indexed on annual basis.

Gazprom’s delivery of gas to Russian consumers has been profitable ever since 2009. Even as profit margins were 19.1 percent as recently as in 2009, they have since collapsed to a mere 4.8 percent with the rise in the extraction tax. In the opinion of Ms. Karpel, if the situation remains unchanged in 2016, Gazprom’s divisions supplying residential and commercial consumers on the domestic market will be barely profitable at margins of between 2.5 and three percent. At the present time, the Russian gas export monopoly supplies consumers in the domestic market at prices set by the Federal Tariff Service. At the same time, independent gas producing companies are not constrained in their marketing efforts by the limitations that the FTS sets. As a consequence, these companies are able to come to the market with lower prices and attract a greater share of consumers each year. It is precisely due to this pricing imbalance that the Russian authorities are presently contemplating letting Gazprom market its production within Russia at prices below those set by the FTS.

Independent producers now account for a substantial volume of gas marketed in Russia. As such, Rosneft and Novatek together sold approximately 90 billion cubic meters within the past year. According to Deputy Energy Minister Molodtsov, the increased role of the independents is an obvious concern to Gazprom. The largest independent companies have taken on as clients some of the most significant industrial enterprises.

According to the chairman of Novatek’s board Alexander Natalenko, it is incumbent upon the Russian government to provide appropriate conditions for a healthy competition on the Russian gas market, running the gamut from extraction to marketing. In Mr. Natalenko judgment, what the market needs the most is a level playing field, not the piecemeal solutions and patches that the various administrators are proposing. First and foremost, independent producers do not have the same degree of access to known reserves. The costs of exploration for Gazprom may not be compared with exploration costs for independent companies. Specifically, the independents bear a much greater geological risk. The second problem for the independents is the transportation of gas through the pipeline system belonging to Gazprom.

The prospect that the FTS would authorize Gazprom to trade gas domestically at prices below those the regulator sets also worries the independents. In that respect, the independents question Gazprom’s logic in seeking the FTS’s authorization to market gas at 20 percent below the regulated price.

Novatek’s Natalenko has a hard time believing that allowing Gazprom to market gas at lower prices will somehow restore the monopoly’s profitability in a market where it is hardly making any money to begin with.

Another major obstacle for the independents is that Gazprom has absolute and exclusive rights for exporting gas from Russia.

Lastly, the problem of non-payment and consumer debt for gas services is yet one more challenge, without resolving which any efforts at reforms will prove futile. Customer non-payment hampers new development in the gas sector by depriving the producers of the revenue to which they are rightfully entitled. Independent producers are convinced that addressing the issue of non-payment is a direct responsibility of the government.