Today we must talk about some important news, namely the default of the Ukrainian state-owned Oil & Gas Company, called Naftogaz. This past Tuesday (July 26), the company was forced to admit that it could not pay the interest (and portion of the principal) that was due on their Euro obligations. That is to say, it technically could pay the bill that was due, it technically had the cash on hand and was ready to pay the invoice; however the government would not allow it to pay. What the..?
In this piece, our duet of girl-Friday reporters Alyona Zadorozhnaya and Darya Volkova cover the beat by quoting various analysts who know what they are talking about. We also have this newer piece, just from this morning, the reporter is Olga Samofalova, who adds some interesting touches to the overall pircture.
But first a quick sidebar: Also on Tuesday we knew something foul was in the air. Oh, excuse me that was just Denis Shmygal (Ukrainian Prime Minister) opening his mouth to schnorr for liquified gas. From the United States. Calling it “Lend Lease”. Wait a minute, Denis, Lend Lease was supposed to be for tanks and fighter jets, not gas.
“But we are trying to prepare ourselves,” Shmygal whined, “for a very tough winter. The toughest one in our history. And we are seeking every possible instrument, so that we are prepared for every possible scenario.” More specifically, the Ukrainian government is asking America to supply Ukraine with 6 billion cubic meters of liquified natural gas. With a promise to pay them back in two years. [America: If Ukraine is starting to sound like your mooching brother-in-law, you’re not wrong!]
And then the news of the Naftogaz default. Now that they have declared bankruptcy, they will never have to pay another penny to their creditors, and it’s all Russia’s fault.
A Feud Of Oligarchs
For those not in the know, Naftogaz is run by people from Petro Poroshenko’s circle, and those guys don’t get along at all with Zelensky’s people, which includes Shmygal. (Two different, competing sets of oligarchs.) Shmygal is trying to maneuver this situation so that he can remove the top management of Naftogaz and he doesn’t care if he has to drive the company to bankruptcy to accomplish that. (Scorched earth policy.) Secondly, Naftogaz management are not too cut up about it themselves, they don’t care if they can continue to acquire loans and never have to pay them back (after declaring bankruptcy). There is always Russia to blame.
All of the various lady reporters turn to an analyst named Igor Yushkov, who is an expert in the energy sphere and who can explain the complicated situation. Judging by his photo, this is a young guy and actually kind of cute. According to his Forbes profile he graduated from Moscow State University with a degree in Politics and works as an analyst for the Russian Fund For Energy Security. He also works as an Instructor at the Financial University which prepares cadres for the Russian government. Igor specializes in oil and gas issues.
Yushkov: “It is obvious that here we have an issue of competition within the Ukrainian elites… [Poroshenko vs Zelensky] … Naftogaz is trying to show that it is holding to the norms of corporate accountability, whereas the government is intent on proving the incompetence of the company’s management.” But none of this worries the Ukrainians one whit: “All of the difficulties can be blamed on Russia. This will permit Kiev and and Naftogaz to accuse any [creditor] of being a Kremlin agent, who has the gall to demand the repayment of the debt. Not only that, but the company can continue to demand even more money as loans. They have no incentive to try to repay anything, because they can convert the issue from a purely economic one onto the ethical and political plane.
“In an ideal world, one would sell Naftogaz assets and put a hold on all its accounts. To do this, a creditor must sue in court. But, given the current political realities, none of that is going to happen. And the bankruptcy process presupposes that all the debts will be written off.
“After which, Naftogaz can go out onto the loans market and beg for more money, threatening everybody [who doesn’t want to donate $$$] that Ukrainians will freeze to death this coming winter. [And then it’s all their fault.] However, one thing we don’t know, is how much gas the country needs. Ordinarily [in the past] it would consume 30 billion cubic meters. […] However, Kiev has lost control over a large swathe or territory, and industrial activity has come to a halt. This means they could actually be self-sufficient, although it’s certainly nothing to be proud of, given the circumstances.”
Keep The Presses Rolling
Next we meet another economist, goes by the name of Ivan Lizan. He is also young, but not as cute as Yushkov. Lizan: “Naftogaz will continue to operate, since it is a monopoly which controls the gas-transport system. Not to mention that an unbelievable amount of money has passed through it, due to the fantastically high prices for gas. But we have the heating season coming up, and they are actively discussing where they can buy the gas.
“Still, in any scenario one thing is clear: The Ukraine is completely bankrupt. The presses keep printing money without pause. Just in the beginning of June they have already printed 235 billion hryvnas. While the army consumes in the course of a single month, an entire year’s budget. And there is nothing left to pay salaries to government workers.”
Lizan believes that the Naftogaz default might set off a chain-reaction throughout the whole of the Ukraine. “Next on the block could be Ukr-Avto-dor [roads], and other state corporations which will also not be able to pay the interest due on their Eurobonds. On the other hand, they might be able to buy a little time on the payments if Zelensky is not averse to seeing some capital outflow from the country.
“Here is one scenario: We could potentially see the handover of Naftogaz, under default, to external management. However, I don’t see any logic or benefit to doing that. It’s one thing to control a company during peace time, but a completely different ball game in the current circumstances. Another variant would be to force the creditors to restructure the debts. This has already been done with the state debts.”
The Naftogaz default will make the company a pariah on the international capital market. But it wasn’t their fault: The Ukrainian government and Cabinet of Ministers forced them into this situation by not giving them the measley $335 million dollars which should have been the government’s portion of the overall $1.4 billion that Naftagaz needed to keep its debt swimming along. By the same token, said Cabinet is now responsible for keeping Ukrainian citizens warm over the winter. They will have to find a way to import enough liquified gas, according to Lizan. Which returns us to Shmygal’s unbounded hope that Uncle Sam will gallop to the rescue again. With the vaunted Lend Lease, showering free liquified gas upon the population, like manna from heaven.
Another sad fact, is that Naftagaz is one of the Ukrainian government’s main cash cows for tax revenues. Hence, its default will harm the government mainly even more than the government harmed it. Not to mention that the creditors will be quite wary of issuing more loans. Fitch Ratings has lowered the Ukrainian government’s rating, to the point where the country as a whole might have to declare default.
A Silver Lining?
In her piece, Olga Samofalova sees a possible silver lining: The Ukraine has an actual opportunity here to emerge as completely self-sufficient when it comes to gas. Much of this analysis also comes from Yushkov. Who points out that Ukraine is smaller now and doesn’t have to worry about keeping the “lost territories” warm over the winter. Ukraine doesn’t get all its gas from Russia either, it actually has its own gas, believe it or not, at a level of 20 billion cubic meters per year. This gas is drilled in the center and Western part of the country, which is still under Kiev. In earlier years consumption would exceed production by around 10 billion cubic meters annually, and Ukraine would have to somehow make up the deficit. But this year, the 20 bil might be just enough. Keeping into account, however, that you can’t wildly consume all the gas, a certain level needs to remain in the underground reservoirs, to keep the pressure up, that’s called “technical gas”. Nonetheless, self-sufficiency in a truncated Ukraine is still a possibility, except for one fly in the ointment: The greed of the suppliers. Who may decide it is more profitable for them to sell their gas to a freezing Europe, than to keep their own citizens warm and cozy.