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Pipe Deemed Too Profitable

Date of publication: 17 July 2020

The Ministry of Economy has supported a reduction of Transneft tariffs.

According to Kommersant, the Ministry of Economy is the only department that backed the proposal of Rosneft Head Igor Sechin to cut Transneft tariffs. The Ministry of Economy argues that the current level of Transneft’s net profit is rather high and by 2025 it may well be cut ca. five times down to 5%, in support of the oil companies. Transneft described this idea as transition to a “command economy”. The Energy and Finance Ministries, as well as the FAS, propose conservation of the current petroleum pumping tariffs, so that the approach to their indexation remains unchanged.

The Energy, Economy and Finance Ministries, as well as the FAS, on instructions from Vice-Premier Yury Borisov, had prepared by 15 July 2020 their proposals to cut Transneft tariffs, responding to the May request of Rosneft Head Igor Sechin to Russian President in the backdrop of falling oil prices. According to Kommersant’s sources, most departments stood against the revision of tariffs. Thus, according to one of Kommersant’s sources in the government, the Energy Ministry, in particular, fears that breaking the established tariff formation pattern for Transneft, based on the “inflation minus” principle, would entail complaints from consumers of services provided by other natural monopolies.

In the opinion of that source, the profitability of Transneft, calculated as a ratio of net profit to revenues, is high enough for tariffs to be cut, as follows from the letter of Economy Minister Maksim Reshetnikov to FAS Chief Igor Artemyev, dated 14 July 2020. The letter further says that in 2019, the profitability of Transneft (exclusive of the income from oil sales to China) amounted to 22.6%, and under the current approach to tariff indexation it may rise to 25% in 2024. For all that, a natural monopoly runs lesser risk compared to companies in competitive markets, so the current level of profitability is too high and fraught with excessive tariff load on consumers, according to the Ministry of Economy.

They admit in the Ministry that, should the investment programme remain intact, the reduction of Transneft revenues is to be taken into account in dividend calculation. The monopoly itself figured for Kommersant that the funds deficiency from the reduction in tariffs to the level of 2008 could come to RUB 130 billion in 2020, to RUB 227 billion in 2021 and to RUB 304 billion in 2022.

The ministries confirmed for Kommersant that they had forwarded their proposals to the FAS, but declined to comment on their content.

Transneft disagrees with the case of the Economy Ministry, stated for Kommersant Igor Demin, Advisor to the Company’s Head. Thus, the profitability of all business activities of Transneft was counted, not just the regulated part – the pumping of crude oil and petroleum products – where this indicator does not exceed 10%, according to Mr. Demin. The profitability of 5% would not cover the costs of building new infrastructure within real timeframes (15-20 years), he argues. In the opinion of Transneft, setting the tariffs proceeding from profitability levels would mean renunciation of market principles and transition to state regulation, with command economy replacing effective market economy. “It comes out that if a company’s profitability is more than 7.5% which is the case of Rosneft [in 2019 – Kommersant], the price of its products is overstated. If so, regulated fuel prices could be fixed as the next step,” concludes the Transneft spokesman.

Fitch’s Dmitry Marinchenko points out that there can be different approaches to calculating business profitability, which may sometimes lead to opposite results. He reminds that in 2018-2019, the free cash flow of Transneft before dividends surged roughly to RUB 100 billion from RUB 70 billion in 2017 and RUB 20 billion in 2016 – mainly due to reduced capital investments. The lion’s part of this cash flow was paid out to shareholders, the biggest one being the Russian Federation (78.5%), and so cutting the tariffs now would bring about the contraction of dividends, in the first place, the analyst explains. In the meantime, as noted by Mr. Marinchenko, this dispute is gradually getting less and less relevant, given that the oil prices have already grown from USD 18 per barrel in April to more than USD 40 now.

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