GIF INSIDE STORY: Poland's post-Gazprom supply conundrum

Author: Kaja Sillett

2021/02/15

LONDON (ICIS)--Delays to US LNG project funding and the restart of Danish gas production may leave Poland more exposed to the spot market from 2023 than initially intended.

State-owned supplier PGNiG’s 26 year-long Yamal pipeline supply contract with Russian producer Gazprom expires in the end of next year.

PGNiG is Poland’s largest oil and gas company, dominating the industry from exploration to storage as well as transmission and trading.

The company planned to partially backfill the end of Russian supply with LNG contracts. However, two such agreements starting in 2023 are still awaiting final investment decisions (FIDs) for construction of LNG export plants, with one facility now aiming for a 2024 operations start-up.

Another supply opportunity for PGNiG came from the 10bcm/year Baltic pipe project, due to link Norway, Denmark and Poland once operational in autumn 2022.

In 2017, PGNiG booked enough capacity on the pipeline to replace 80% of volumes currently supplied by Russia.

However, to-date PGNiG has only secured long-term supply through the pipeline, from its own and Danish production, to fill around a quarter of its reserved Baltic pipe capacity.

Half of the long-term supply due to be sourced from Denmark from when the Yamal contract ends will be delayed, likely leaving PGNiG without Danish North Sea gas for at least the first six months post Yamal.

LNG and Danish delays combined leave a hole in PGNiG’s contractual balance in 2023, raising the prospect of more spot and short-term purchases.

Polish gas demand in 2020 totalled 18.9 billion cubic metres (bcm), largely met by the 10bcm/year take-or-pay Gazprom contract, of which PGNiG must buy a minimum of 8.7bcm/year through Belarus.

The contract will expire at the end of 2022, two months after the Baltic pipe is due to open.

PGNiG accounts for over three quarters of Polish gas acquisition.

US LNG delays

PGNiG arranged LNG contracts to start in time to backfill the end of Russian contract with three US suppliers - Cheniere, Venture Global and Sempra Energy. These will add to PGNiG’s long-term contract with Qatargas for LNG supply, in place since 2018.

Once all long-term contracts begin, deliveries of US LNG to PGNiG will total 9.3bcm/year, PGNiG said in a statement.

“If the US LNG contracts all started on their agreed dates there would be little need for PGNiG to flow any more gas via Baltic Pipe, than contracted volumes - in a limited demand growth situation”, ICIS gas and LNG analyst Tom Marzec-Manser said.

One of the two Free-on-board (FOB) contracts is for supply of 2.5mtpa (around 3.4bcm/year regasified) from Venture Global’s prospective Plaquemines plant in Louisiana. Another is for 2mpta (2.7bcm/year) from Sempra Energy’s proposed Port Arthur export facility in Texas.

The Venture Global contract was planned to start at some point in 2023, while the Sempra Energy agreement was due to commence on 1 January 2023.

However, both Plaquemines and Port Arthur are still awaiting FIDs, having been delayed until mid-2021, rather than 2020 as originally planned, let alone begun construction.

Plaquemines is targeting a 2024 start-up of commercial operations, according to its website.

This leaves PGNiG without Plaquemines supply throughout 2023, and risks Port Arthur following suit with funding timetables already having been pushed back.

“I would not be surprised if a mid-term LNG purchase agreement is set up with someone like Norway’s Equinor to cover the shortfall,” Marzec-Manser added.

Equinor operate and market LNG from the 4.2mtpa Hammerfest plant in northern Norway.

Baltic pipe underutilisation

US LNG projects are not the only PGNiG investments to have suffered blows recently.

PGNiG booked 8.1bcm/year of Baltic pipe’s capacity in 2017 - if fully utilised enough to replace almost 80% of the expiring Gazprom contract.

PGNiG also has equity stakes in a number of producing fields on the Norwegian Continental Shelf (NCS).

The company forecasts its NCS output to reach to 0.94bcm in 2021 and has confirmed that the entirety of its NCS production will be transported to Poland via the Baltic pipe from 2022 onwards.

The company’s production from the NCS is likely to increase somewhat into the mid-2020s as PGNiG holds licences for fields that are yet to come onstream.

However, PGNiG’s NCS production (based on their 2021 guidance), combined with a long-term supply deal with Denmark have only secured supply to Poland through the Baltic pipe worth around 20% of the retiring Gazprom contract’s annual volume.

PGNiG also signed a long-term contract with Danish utility Orsted for supply of 6.4bcm Danish North Sea gas through the Baltic pipe between 1 January 2023 and October 2028, translating to around 1.1bcm/year.

Weeks after the deal was announced, operator Total delayed the resumption of production from Denmark’s largest natural gas field Tyra by a year to June 2023.

Tyra has been shut down for redevelopment since autumn 2019 and is responsible for 90% of Danish domestic gas production.

Orsted holds a number of take-or-pay contracts with producers in the Danish North Sea but has increasingly turned away from oil and gas towards renewables. The PGNiG contract gives the Danish incumbent a firm buyer of these volumes in the long term.

Orsted said in December a delay to the resumption of Danish gas production from the Tyra field means delivery to PGNiG will likely start later than January 2023.

This leaves PGNiG with a potential 6-month gap without Russian or Danish North Sea supply.

When asked about the possibility of further supply contracts through the Baltic pipe being signed, a PGNiG spokesperson did not comment, highlighting instead that the company aspires to build up its NCS presence and trading capability.

This indicates PGNiG buying short-term gas from Norwegian producers and perhaps increasing their equity production on the NCS.

Spot exposure

The contractual supply gap, unless filed with other deals, will necessitate increased activity from PGNiG on the European spot market to plug the gap.

That gap will only grow given Polish demand is likely to increase over coming years. Rising consumption will come from fuel-switching in the power sector away from a heavy reliance on coal.

Coal’s position as a domestically produced resource, independent of Russia, has helped it remain a key energy source in Poland.

Coal represents 43% of Poland’s 2021 power generation capacity, while gas only contributes 7%.

ICIS analytics’ long-term forecast for Polish power capacity shows gas-fired capacity increasing from 3GW in 2021 to 10.2GW by 2030, as coal-fired generation is halved by the end of the decade.

According to estimates from the Poland’s energy ministry, demand for gas is set to reach 22bcm by 2024.

Pipeline and LNG infrastructure will allow PGNiG to draw from both markets to source spot volumes.

LNG Edge data showed PGNiG has bought spot cargoes volumes from large producers like Shell, BP, Cheniere, Total and Equinor.

Only 25% of PGNiG’s Baltic pipe capacity is tied to its own production and the Orsted agreement, leaving around 6bm/year to be used for short-term buying or perhaps other long or mid-term supply deals.

PGNiG told ICIS its use of the Baltic pipe will depend on the outcome of its portfolio optimisation, taking into account prices on hubs and the LNG market as well as demand in Poland and Central and Eastern Europe.

In terms of what hub may be used to price short-term deals, PGNiG said it would not disclose its trading plans but added the most popular index around Europe for LNG and NCS purchases is the Dutch TTF.

Poland can also physically source German gas directly via the GCP point on the border between the two countries, as well as the Czech Republic. Imported volumes are minimal via these routes currently.

Russia’s export capacity to Germany could double to 110bcm/year on completion of the Nord Stream 2 pipeline, now delayed until at least the second quarter of 2021.

A study by the Oxford Institute of Energy Studies (OIES) highlighted the irony that, despite Poland’s anti-Nord Stream 2 rhetoric, Russian gas arriving to Germany could become a source of flexibility for the country to offset any shortfall in supply from its new alliances.

However, the study also highlights that preferential Russian flows to northwest Europe through Nord Stream and Nord Stream 2 are likely, rather than via Ukraine or Poland, due to the shorter length of transit.

Furthermore, Gazprom’s new deal with Ukraine on gas transit is less flexible, meaning the role of “balancing route” may be transferred to flows via Poland, leading to lower or variable transit flows.

If Polish transit falls as a result, this may hinder the feasibility of virtual reverse flows from Germany and in turn, increase the need for short-term deals via the Baltic pipe.

Short-term purchases from Gazprom through the Yamal pipeline or Ukraine may also remain a possibility, albeit an unlikely first-choice for PGNiG so soon after their divorce from Russia’s long-term supply.

Cross-border flows from Ukraine rose in gas year 2019. Poland is a key transit route for volumes stored in Ukraine reaching other European countries.

Silver linings

The potential for PGNiG to require short-time supply arrangements for a time in 2023 may also open up new opportunities.

Having less supply tied up in long-term contracts gives PGNiG more options to adjust its position in terms of volumes sourced once near-term demand is clearer, and more room to capitalise on arbitrage opportunities.

Furthermore, supply from a wider range of sources post-Gazprom may also enhance PGNiG’s position.

PGNiG does also have other supply options other than US LNG and the Baltic pipe beyond the end of Russian supply.

PGNiG’s brent-indexed contract for supply of 2mtpa (around 2.7bcm/year) Qatari LNG is to last until mid-2034.

LNG has allowed PGNiG to meet rising gas demand without increasing Russian imports in recent years.

PGNiG said in a release that its LNG imports are to significantly increase in coming years due to expansion of the Swinoujscie terminal from 5bcm/year capacity to 8.3bcm by 2024. PGNiG owns 100% of the access and regasification capacity at Swinoujscie.

PGNiG also produced 3.8bcm domestically in 2020, a more economical alternative to expensive imports. The company’s expects to produce 4bcm in 2021.

Additionally, the Gas Interconnection Poland-Lithuania (GIPL) pipeline is due to open at the end of 2021 and the Poland-Slovakia Gas Interconnector is planned for commissioning by February 2022.

GIPL will provide 1.9bcm/year technical capacity from Lithuania to Poland, while the Poland-Slovakia Gas Interconnector is set to bring 5.7bcm/year technical capacity towards Poland, adding to Poland’s short-term supply options.

Risky business

PGNiG risks adopting an overly politicised strategy.

“The risk comes from mixing commercial considerations with politics, and from “burning bridges” to the East politically and commercially before the new ones (expansion of LNG regasification capacity and Baltic Pipe) are completed,” OIES said.

The paper highlighted PGNiG could have continued to use diversification of its supply as negotiating leverage with Gazprom, but instead has opted to eliminate Russian supply completely.

“The attempts to find substitutes to Russian supply have led to the pursuit of commercially questionable and economically redundant projects,” the OIES added.

All considered, a likely ramp up in PGNiG’s short-term buying interest in 2023 brings both risks, but also naturally alongside that some opportunities.

However, with questions cast over several of company’s investments, Marzec-Manser summarized that PGNiG “does not currently appear to be in such a cosy situation in terms of long-term supply following the end of Gazprom contract” if multiple US LNG projects do not complete on time, or at all.