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Weekly analytical report October 7 – 13, 2013

1. While continuing negotiations with Gazprom, European countries are developing infrastructure for other sources of supply. Energy issues will remain a priority during Greek presidency in the EU in 2014, including further liberalization of the market pursued by the European Commission, and greater transparency of companies. Infrastructure remains an important issue: the EU creates new mechanism to fund projects of common interest, among them – a possible LNG terminal in the Baltic. European countries have intensified negotiations with Gazprom: Lithuania urged Gazprom to price concessions and plans to appeal to the EU Court of Justice, OMV hopes to complete negotiations on decreasing gas price by the end of 2013, negotiations also started with PGNIG – Polish government expects lower gas prices, but some companies have already begun talks on purchasing gas from the U.S. Bulgaria also hopes to diversify, planning to get Caspian gas as early as 2016. Ukraine is also preparing for the next round of negotiations with the Russian party, which is scheduled to October 15. Before the meeting, the Prime Minister M.Azarov declared the possibility to refuse from Russian gas imports if the current contract will not be revised. Gazprom reacted to this statement in a calm manner, while the Russian PM’s spokeswoman N.Timakova announced sanctions for attempts to review the contract unilaterally.

2. Ukraine and the EU are updating energy agenda before the Vilnius summit. During his visit to Ukraine, Commissioner G.Oettinger held a meeting with the President V.Yanukovych and expressed satisfaction with cooperation. However, during talks with the Prime Minister M.Azarov, the latter has asked for a clearer position of the European Commission on the GTS modernization and reverse gas supply via Slovakia. The EC position on the GTS is to fund its modernization. Meanwhile, due to weather conditions, gas supplies to Ukraine from the EU were reduced, and experts recommend the government to define the supply obligations with European partners more precisely. The report on the implementation of commitments produced by the Energy Community said Ukraine demonstrated quite moderate progress.

3. Along with environmental concerns, regulation may become an obstacle to the development of unconventional gas in the EU. The Constitutional Council of France has confirmed a ban on hydraulic fracturing for shale gas in the country. The European Parliament will vote on mandatory environmental impact assessment before shale gas production, expanding regulation regarding methane emissions control at drilling sites is also discussed. In Lithuania, Chevron refused to start shale gas exploration, citing unfavorable changes in the legislation. Shell’s CEO P.Vozer criticized the profitability of company’s business in the U.S. At DiXi Group, 2013 Energy information ● Analysis ● Consulting

the same time, Belorusneft and UK’s Toros plan to jointly search for shale gas in southern Belarus. China opens new projects for conventional gas production – both own offshore and together with Uzbekistan. Approval of the draft PSA with Chevron in Lviv contributed to solving the accompanying difficulties in Ukraine. The parliament has legalized the demands of the Lviv Regional Council, supporting allocating 10% of the state income for local needs. Despite in Lviv signatures are collected against the decision of the council, the "Svoboda" political party already predicts that Chevron will produce not shale gas but rather conventional gas in western Ukraine. At the same time, the company still does not plan exploration, waiting for the PSA signed with the government. Officials in Poltava region also talk on possible shale gas production.

4. Ukraine has accumulated sufficient gas volumes to be prepared for the winter season and reliable transit. Ukraine increases its own gas production – in September, it grew by 6.3% compared to the same period in 2012. During the first 9 months, the NJSC "Naftogaz" has increased gas production by 2.5%. The company refused Gazpromneft-Sakhalin to rent one of its recently purchased rigs and plans to intensify cooperation with Turkish companies in energy production and transportation. Ukrnafta reduced its production volumes causing the government officials to threat with possible change of management. According to the NSJC "Naftogaz", as of October 1, 17 bcm were injected in the Ukrainian underground gas storages; according to media reports – 15.8 bcm. Another 5 bcm Gazprom sold to Ostchem Holding for a significantly lower price – 260 USD/tcm, which experts called a compulsory measure of Gazprom to maintain reliable transit, but under mutually beneficial formula. However, for Ukraine, the average price of imported gas in September was 407 USD/tcm. At the same time, start of the heating season showed unwillingness of both the government and municipal utility companies to guarantee proper and timely heat supply. Against the background of statements on the beginning of heating season, even ahead of schedule, public rallies were held with the requirements to connect heating, reports were made about no heat in schools and kindergartens, and slow connection of hospitals. A number of facilities in Sevastopol and Kremenchuk remained without gas supply. However, the warm weather in the end of last week has improved the situation: connected residential units in Ukraine reached 98%, and in Kyiv – almost 95%. Despite it was promised not to stop heat supply in the warmer period, Lviv decided to ignore it. Against this backdrop, there is a growing local struggle to get gas. Despite Naftogaz assured of concluding contracts with heat suppliers, due to the conflict with the Ministry of Energy – according to the media – no gas was delivered to Severodonetsk, due to Naftogaz not allocating gas "limits" – to Uzhgorod, and people even threatened to break pipeline seals in two cities of Vinnytsia region. Instead, Odessa was able to get the approved gas limits and launch boilers, and Donetsk region is confident that gas supply will not be disconnected and will be over minimal technological level.

DiXi Group, 2013 Energy information ● Analysis ● Consulting

Despite claims about the lack of funding and higher costs due to the early start of heating season, the government refused to raise tariffs this year. Unlike the World Bank, which expects gas prices to grow by 55%, the Ministry of Regional Development says there are no preconditions, and the government wants to strike the issue out of negotiations with the IMF. Against this background, Belarus increased gas prices for budget organizations. Refusing to raise gas tariffs, the government continues the program of gasification. Gasification is on its way in Zakarpattya and Crimea, 25.2 mln UAH will be allocated for such needs in Odesa region, and a criminal investigation was opened in Zaporizhzhia region for embezzlement of gasification funds. The issue of gas debts is to be solved by promissory notes – the initiative adopted by the parliament as a whole. According to the resolution, the government could issue notes to local budgets to cover 2.9 bln UAH of difference in heat tariffs. In such situation, the regions are looking for ways to solve problems on their own – in Zhytomyr and Ternopil regions, boilers are converted to alternative fuels; in Kyiv region, the first biomass TPP will be built with phase 1 operational already in late October; in Zaporizhzhia, local power plant is being modernized; some heat suppliers negotiate loans with banks; in Rivne, heat is being reused to get additional volumes of hot water. Meanwhile, the government announced that the first unit of the Vuglegirska TPP, hit by accident this year, has been restored.

5. China increases its demands for imported oil. Brent Oil prices fluctuated within 109111.8 USD per barrel, and the NYMEX price increased due to the "historical tweet". China has become the largest importer of oil, planning to import also from the Kashagan field. The former leader – the U.S. – beats record in exporting oil products, forcing European refineries to look for new markets. In Ukraine, instead, there is growth of wholesale prices for diesel fuel and slightly reduced retail prices. The State Roads Agency promises not to advocate the increase of excise duties on oil products, but experts predict the cost of petroleum will increase in 2014 because of 5% bioethanol additive. In January-September, oil transit through Ukraine’s territory increased, but the transit via ports significantly decreased. Refining continues to decline – from January to September, it fell by 34% compared to 2012. Negotiations continue on the corporate conflict around the Odessa refinery, and the Kherson refinery is looking for partners of its reconstruction.

6. Europe is seeking cheaper and more stable electricity supplies. Its cost, as a study discovered, is much higher for Central and Eastern Europe when the purchasing power is included: e.g., Bulgarians pay 60% more than the EU average. However, the problem of instability in electricity supply may occur also in Western Europe – e.g., in the UK it could happen already this year due to less free generation capacities. To achieve common goals, 15 European countries will in a month more deeply integrate the electricity markets. In Ukraine, there is no coordinated and targeted policy in the electricity sector. To reduce the supply risks, the government is being asked to deal with both financial and material "holes" on the regional level. To attract investment in the sector, the procedure of approval the DiXi Group, 2013 Energy information ● Analysis ● Consulting

investment component in the tariff was published, and the media discuss the projects of Ukrenergo corporatization. Against this background, the crying fact is the inability of the NERC, Kyivoblenergo and local authorities to solve the situation in several cities of Kyiv region where, according to media reports, around 700 families residing on the ground floor receive overstates bills with non-residential tariffs. At the same time, the NERC could open the way to greater independence of consumers, namely by obliging energy companies to connect domestic PV-installations in 5 days.

7. Despite positive forecasts, the implementation of EU 20-20-20 targets is delayed in time. According to the forecast of one of the energy companies, future demand for natural gas and renewable energy will grow the most, which will make these types of energy biggest competitors. However, a report was published showing no EU country could achieve the targets as of current situation. Another proof is the reduced number of major CCS projects in the world. At the same time, innovations are made on the household level, and some countries define the development of renewables as element of their independence. The development of renewable energy projects is underway in Ukraine too. Construction of a solar power plant began in Sevastopol, and in Dnipropetrovsk region PV-plant was put into operation. Unfortunately, an accident happened on the Botiyevo wind farm where one of the wind turbines was on fire. The scandal of Russia arresting Greenpeace activists develops in a new round. Three weeks after the arrest, the Russian party announced they found drugs – a statement called slander and fabrication by Greenpeace which said it could sink the ice-breaker. The possibility of multiple solutions to the conflict provides the statement on unjustified accusations of piracy by the head of the Human Rights Council under the Russian President. Which option is chosen, will be announced during the appeal hearings of each member of the crew, including a citizen of Ukraine, which could happen as early as next week.

8. The EU has provided its member states with the opportunity to decide whether to support nuclear energy. The European Union refused to develop guidelines on acceptable levels of state subsidies for nuclear energy, declaring it will consider each case separately. Against this background, a joint position of the stakeholders on the Visaginas NPP is to be presented in Lithuania. Instead, Ukraine is urged to develop nuclear energy to half of its energy balance. In September, Ukrainian NPP reduced electricity production, and experts advise to increase the nuclear share in the energy balance, but without building new facilities. Meanwhile, the "Nuclear Fuel Production Plant", created in Russia with the participation of the State Concern "Nuclear Fuel" (Ukraine), announced the increase in authorized capital. Japan, where another leakage of radioactive water occurred, does not plan to refuse from nuclear energy in the nearest future and will continue its cooperation with Ukraine on disaster recovery. In its turn, Ukraine negotiates with Belarus on joint training of specialists and could become an associate member of the CERN. DiXi Group, 2013 Energy information ● Analysis ● Consulting

9. Financial condition of the NJSC "Naftogaz" continues to be supported by the state. Naftogaz has denied expectations of the media of its default and declared fulfillment of the obligations issued in 2009. At the same time, the parliament has allowed the Cabinet of Ministers to provide state guarantees for the liabilities of Naftogaz in 2013 and looks forward for the draft 2014 State Budget.

DiXi Group, 2013 Energy information â—? Analysis â—? Consulting

Weekly analytical report: October 7 - 13, 2013  

Analysis of last week's key events provided by the "DiXi Group" experts.

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