Gas companies across Eastern Europe have had a tough time of late. A long-running dispute over supply and pricing came to a head in January, with Russia turning off the tap on its gas supply to the Ukraine. The Ukraine claimed Russia was using a sharp price-hike as punishment for its government’s West-looking stance; Russia maintained it just wanted a fair market price for its gas. Regardless of the politics behind the dispute, when the Ukraine refused to settle its bill, Russia cut supplies.

It was not just the Ukraine that suffered the consequences. Other countries which were not involved in the dispute but downstream in the gas delivery chain – receiving their gas supplies from Russia via a pipeline through the Ukraine – also saw their supplies dry up.

Serbia was one of the worst-affected countries. It relies on Russia for 92 percent of its natural gas. When the gas supply ran out in January as a result of Russia’s dispute with the Ukraine, outdoor temperatures were reaching lows of around -15° Celsius. The lucky few with electric heaters in their homes were warned by the electricity suppliers to minimise their use, lest the entire power grid be overwhelmed by an extreme spike in demand. The whole debacle meant that many Serbians spent their Christmas to January 7 shivering under blankets in the bitter cold.

Neighbouring countries with more secure supplies chipped in – Austria, Hungary and Germany all offered to help Serbia see out the crisis. And eventually, the Ukraine and Russia sorted out their differences, the gas supply resumed, and Serbians could again heat their homes.

But for the company responsible for supplying gas to the country, the headache has lasted much longer. Maintaining continuous gas supplies is a big undertaking. Infrastructure for storing and distributing natural gas involves hefty amounts of long-term planning and substantial financial investment. Srbijagas, the state-owned company that distributes and sells natural gas to Serbians, is tasked with organising it all.

As a result of the increasing importance of ensuring an uninterrupted gas supply, and the requirements of conforming to international agreements, Srbijagas finds itself on the precipice of a series of developments which are unprecedented in its 40-year history. Currently, it has two enormous infrastructure projects in the works, while it simultaneously amplifies its domestic operations and adapts to a new regulatory framework.

The state-owned enterprise has expanded its domestic interests over the past months by taking a stake in industrial manufacturers in Serbia which had been badly knocked by the recession. And as the country pursues candidacy for the EU, Srbijagas has an important role to play in making sure the energy industry makes the grade.

But the biggest developments ahead for Srbijagas are its infrastructure projects: a gas pipeline and a storage facility. Strategically located between Western Europe and the natural gas-rich Caucasus, Serbia is in a prime location to transport gas between the two regions. An ambitious gas pipeline, currently at the planning stages, will allow Serbia to capitalise on its location in a new route between Russia and Western Europe. Coupled with a large underground gas storage facility due to open soon, the new infrastructure will elevate Srbijagas’ standing in the region, its director says.

More practically, the pipeline and underground gas store will help secure gas supply for a country that relies on imports from Russia via the Ukraine for most of its supply. The gas crisis in January made the importance of finding alternative supply methods very clear. The prospect of the stand-off between Russia and the Ukraine being repeated is a ‘major problem for the provision of a safe supply market in Serbia,’ Dusan Bajatovic, the general director of Srbijagas, says.

Maintaining stocks
One solution to limit such catastrophes in the future is for Serbia to hold its own gas reserves.

Currently being constructed is an underground natural gas storage facility at Banatski Dvor in the north of the country close to the Romanian border. A joint project between Srbijagas and its Russian counterpart Gazprom, the storage site will be the first of its kind in Serbia.

The facility is badly needed to reduce the country’s dependency on an uninterrupted supply. By holding its own natural gas reserves, Serbia will have a buffer if Russia cuts supply to the Ukraine in the future. While construction began on Banatski Dvor in 2005, the gas crisis earlier this year demonstrated just how vital the facility is.

Bajatovic describes the €100 million project as one of the company’s “greatest challenges”.

“For the Republic of Serbia, this is a strategic project that will provide security in case of repetition of the crisis in the month of January this year,” Bajatovic told World Finance.

The Banatski Dvor site is a work in progress. When it first opens, it will have the capacity to store 450 million cubic metres of natural gas. That could be enough to keep Serbia supplied for almost two months. Yet, it is set to get even bigger. In July, Gazprom and Srbijagas signed an agreement for a second phase of construction at the site, which will more than double its capacity to 800 million cubic metres. The project is a huge infrastructural effort: on the side a new pipeline connected to the Banatski Dvor site is under construction, which Srbijagas expects to be completed in the coming months.

Banatski Dvor may just be the beginning when it comes to Serbia’s natural gas storage potential, Bajatovic says. He cites estimates which suggest Serbia potentially has the space to construct storage for up to seven billion cubic metres of gas – enough to maintain stability of gas supplies in Serbia but it will also promote Srbijagas as the leader of storage and trading of gas in the region. In the future, the company would like to build several more storage facilities, Bajatovic says.

New supply routes
Maintaining domestic gas reserves is one way of mitigating the possible effects of future disruption to supply from Russia via the Ukraine, but the Serbian gas distributor is looking at all its options. Another way of securing supplies is to open alternative delivery routes, a strategy Srbijagas is investigating.

The most ambitious new delivery route is ‘South Stream’, a project initiated by Gazprom. This would see Russian gas piped directly across the Black Sea to Bulgaria, into Serbia, and from there onto other European countries.

The whole pipeline is an impressive proposal. It would involve laying 900km of pipeline across the Black Sea, up to two kilometres underwater at some points. When finished, it will be able to carry up to 63 billion cubic metres of gas each year – a large capacity which Gazprom hopes will future-proof the pipeline, amid predictions that Europe’s gas demand will increase significantly over the coming decades. Building the Serbian section alone will be a major operation – it is estimated that the pipeline’s construction could see up to €2bn of direct foreign investment go to Serbia. Srbijagas’ proud new storage facility at Banatski Dvor is on the South Stream route and will be connected to the new network.

Srbijagas signed up as junior partner to Gazprom in May for a joint venture to carry out a feasibility study on South Stream in Serbia. The study, which is due by the end of the year, will look at technical, legal and environmental aspects of constructing the pipeline across the length of the country. It is hoped that construction will start next year, with the pipeline being ready for use by the end of 2015.

There is another significant gas pipeline to Europe in the planning stages.

A competitor or a complement to South Stream – depending on one’s perspective – Nabucco will carry gas from the Middle East and Caspian regions to Western Europe. At 31 billion cubic metres a year, Nabucco’s planned capacity is much smaller than that of South Stream, but it is still a major international project. Current plans have it crossing through Turkey, Bulgaria, Romania and Hungary to reach an Austrian distribution hub. Serbia is not on the map at present, but Bajatovic has told national media that Srbijagas would be open to the possibility of joining the network, if it were invited.

“It would not be bad to link up with the Nabucco pipeline as well, even if it isn’t passing through Serbia’s territory, since gas would be arriving from the Caspian Sea and Central Asia via this pipeline,” Bajatovic was quoted as saying on the Serbian news website b92.

“If there is a possibility of receiving gas from different sources, and Serbia and the rest of Europe are in a situation where they can buy at competitive market prices, this is just one more reason to seriously think about these projects.”

However, Bajatovic said South Stream was the main priority for Serbia at the moment, noting that the gas supply for the Nabucco pipeline remained uncertain.

As well as safeguarding supply against further squabbles between the Ukraine and Russia, the Banatski Dvor storage project and the South Stream pipeline plan will elevate Srbijagas’ international standing, Bajatovic says. The company aims to lead the region in gas storage and distribution.

“That means the market competitiveness and efficiency in all activities of the company, a high quality, stable market supply… and [for natural gas to be] a priority fuel in relation to other conventional fuels,” Bajatovic says.

With these two big projects in the works, he is “convinced” Srbijagas’ goal is realistic, he says.

Currently, the company has subsidiaries in neighbouring countries, and if South Stream goes ahead, it would be on the gas supply route for Austria, Hungary and Slovenia. Srbijagas has plans to extend its distribution networks across major Serbian cities and build more gas storage facilities around the country.

The gas supplier is also expanding its influence across other industries in Serbia. On August 1, it took an 81 percent stake in Serbian fertiliser manufacturer Azotara. The new subsidiary had been heavily indebted when Srbijagas stepped in with the Serbian government to hold it back from bankruptcy. Accountable for around 10 percent of Serbia’s entire gas consumption, it made strategic sense for Srbijagas to keep Azotara afloat.

In July, Srbijagas carried out a similar operation with the Serbian Glass Factory, buying a majority stake from the factory’s Bulgarian owners and also company MSK the town of Kikinda.

As well as diversifying Srbijagas’ operations, the rescues boosted the company’s efforts to be socially responsible, Bajatovic says: “We believe that today it is especially important to save every job.” It is estimated 1,700 jobs were retained as a result of the glass factory deal.

As for other similar ventures, Bajatovic takes a pragmatic approach. Such initiatives would bring benefits, but would also require a lot of work and sound management, he says. Every acquisition will be a story of its own, and in every acquisition Srbijagas will search for different strategic partners who will truelly increase capital.

Srbijagas is a paradox: it is a young company with a long history. The state-owned enterprise was formally established in 2005 when the Serbian government restructured the national energy company, separating the petroleum and gas businesses. Its predecessor had been around for decades. Hence, Srbijagas’ history stretches back to the 1960s, even if the company in its present incarnation did not come about until four years ago.

For most of its history, the Serbian national gas operator has worked closely with Russian and Hungarian gas suppliers. Srbijagas’ ‘most significant’ partnership is with Gazprom, a company with which it shares ‘extremely high quality’ business relations, Bajatovic says. Serbia first imported natural gas from the Russian gas giant in 1979, and the relationship has continued up to the present day, with Gazprom lending a hand to the country’s gas projects.

Srbijagas works with Gazprom on a number of initiatives. One of their most significant joint ventures is Yugorosgaz, a company which develops pipelines and other gas infrastructure in Serbia. The firm was established in 1996 by Gazprom and the Serbian national gas administrator, and today Srbijagas is looking to expand its share of the company from 25 percent to 49 percent.

Serbia’s other long-standing partner is Hungary, another transit country for Russian gas. The neighbour is more than just one more country on the distribution route, though. It came to Serbia’s aid in the January gas crisis. Bajatovic speaks highly of Hungary’s assistance when Serbian supplies were cut. The neighbouring country exhibited solidarity and “great help” in trying to maintain gas supplies to Serbia, Bajatovic says.

Over the course of its history to date, Srbijagas has grown and developed in line with Serbian gas demand, expanding the country’s natural gas infrastructure and negotiating supply contracts. Milestones listed by Bajatovic include opening the pipeline to Hungary, and establishing a network to distribute gas around the country from Serbia’s own Vojvodina gas fields.

But there is virtually no industry which has not been affected over the past year, in some way or another, by the economic downturn. The gas market is no exception. As a supplier, Srbijagas has found itself at the mercy of recessionary markets, squeezed between rising wholesale prices and shrinking consumer budgets.

Until the first quarter of this year, wholesale gas prices rose continually, Bajatovic says. At the same time, some of Serbia’s biggest gas users, such as industrial manufacturers, either slashed their expense budgets to a minimum or “completely stopped spending”, he explains.

The situation was exacerbated by the Serbian government’s actions, which tried to shield citizens from jumps in the gas price. The government decided not to raise consumer gas prices in accordance with the international market value at the end of 2008 and beginning of 2009, says Bajatovic, “in order to decrease pressure on the household budget of our citizens”.

As if that were not enough, Srbijagas predicts that Serbian gas consumption in 2009 could drop by more than 20 percent on last year. The company has ordered up to 2.4 billion cubic metres of gas from Gazprom for 2009 – although now it estimates demand may only reach 1.8 billion.

But there is a light at the end of the otherwise dim recessionary tunnel. Globally, natural gas prices are falling, which should take some pressure off Srbijagas’ margins, Bajatovic predicts. And in Serbia, consumer spending is beginning to pick up, he says. As soon as the third quarter of 2009, Srbijagas expects overall business performance will begin to improve, Bajatovic says.

Bright prospects
While the current economy is hurting almost everyone, in the long term the outlook for the natural gas industry is very good. As the world continues to grow increasingly cautious about high levels of carbon dioxide emissions, natural gas is seen by many as a sure step in the right direction. It is the cleanest of the fossil fuels. When burnt, it produces around half the carbon dioxide that coal does. That makes it a favourite for industries that envisage being pinched increasingly by emissions restrictions and charges under the Kyoto Protocol.

Serbia is classified as a developing country under the Kyoto Protocol, meaning it faces less pressure to reduce greenhouse gas emissions than developed countries. However, it is still obliged to work towards restricting emissions. So natural gas is getting a solid push from within Serbia.

Under its energy development strategy, the Serbian government is promoting the expansion of the domestic gas supply network to encourage a transition to cleaner fuel. As more people have access to natural gas across Serbia, the more the country’s energy sector will become environmentally friendly and sustainable, Bajatovic says.

Increasing the use of natural gas across the country will also help Serbia’s bid for EU membership. Before it could join, Serbia has been told it needs to step up environmental monitoring of energy plants and to implement a long-term, environmentally sustainable energy policy. Srbijagas’ efforts to increase the stability of natural gas supply contribute to the country’s membership requirements.

In a separate EU initiative, Serbia is working toward further regional targets as a member of the Energy Community of South East Europe. An alliance of Albania and the states of former Yugoslavia, the Energy Community was established in partnership with the EU. Its purpose is to build a competitive and stable regional energy market. Many of the regulations in the founding treaty refer to EU directives, in an attempt to streamline standards in the greater Europe region.

When the treaty was first signed, Serbia restructured its natural gas markets and rewrote its energy law to conform, Bajatovic says. Now, as Srbijagas develops its projects and business ventures, it must make sure they fall in line with the Energy Community’s stipulations.

Still on the company’s ‘to do’ list are measures to open the gas market to greater competition, as required by the Energy Community through its links to the European Union. In particular, Srbijagas has been asked to develop a sustainable tariff system and to unbundle distribution and supply operations.

Times of change
As Srbijagas develops and progresses in line with the evolving natural gas industry, it moves closer to its goal of becoming a regional leader in storage, transport and distribution of the product. With the new storage site at Banatski Dvor, Srbijagas will be less vulnerable to disruptions in international gas supply in the future. The South Stream pipeline project will put Serbia on the international gas transit map, and see Srbijagas strengthen its relationship with counterparts in neighbouring countries.

The two infrastructure projects will elevate the company’s standing within Serbia, as the country benefits from a more reliable, uninterrupted gas supply. In turn, more reliance on natural gas over other, less clean fossil fuels will help Serbia meet the environmental criteria necessary to become a member of the European Union.

Srbijagas’ developments will, Bajatovic says, help shore-up the company’s position as a “modern, organised, profitable and long-term successful company with leading position in the domestic market and the market in the region.”

For further information www.srbijagas.com