New Regulations For Shipping In Russia’s Arctic: The Case of Novatek
In early August Novatek, Russia’s largest independent natural gas producer, launched the second train of Yamal LNG even earlier than planned. Although gas production is ahead of schedule, Novatek’s shipping capacities are lagging behind – and there are regulatory factors to contend with as well.
New rules in the Arctic
Since last year, new regulations have been developed for Russia’s Arctic. The Northern Sea Route Directorate, a new overarching authority, was created to take care of the development of regional infrastructure, and manage a nuclear icebreaker fleet. In June 2018, Rosatom won a power battle between different governmental agencies as to who will be in charge of the Northern Sea Route. Vyacheslav Ruksha, a former Director General of Atomflot, Rosatom’s entity, was appointed the new head of the Directorate. The Ministry of Transport upheld the right to grant Russian and foreign vessels permission to sail via the Northern Sea Route. Had the right remained with Rosatom, it could have threatened Novatek’s shipping independence.
Earlier, in December 2017, the federal shipping code was amended stating that the shipping of oil, natural gas, gas condensate and coal which is extracted on the Russian territory along the Northern Sea Route must be loaded to vessels registered under the Russian flag. In light of the ongoing import substitution policy, the amendment aimed to bolster the position of the Russian shipping industry and to limit the involvement of foreign shipping companies.
The new bill would be a major headache for Novatek as it heavily relies on foreign-registered vessels to transport its LNG from the Arctic. Even Sovcomflot’s Christophe de Margerie is registered in Limassol, Cyprus. However, after Novatek’s lobbying, an exception was made to the bill stating that agreements for foreign-registered vessels signed before 1 February 2018 will be allowed to proceed. In addition, the new law defined the Northern Sea Route as the stretch of the Russian Arctic coast between the Novaya Zemlya and the Bering Strait but excluded Murmansk and Arkhangelsk, two major Arctic ports.
These loopholes are of key importance for Russia’s largest independent natural gas producer, Novatek. While the first exception will allow the company to use its fleet of 15 LNG carriers for Yamal LNG, the second exception will help the company to come up with a new strategy for its Arctic LNG-2.
Need for more ice tankers is growing
In early August Novatek launched the second train of Yamal LNG even earlier than planned. By January 2019, Novatek is planning to commence the last third train. The three train LNG terminal is expected to produce 16,5 million tonnes per year (mtpa). In 2022-2025, Novatek plans to start its second LNG terminal – Arctic LNG-2, adding another 20 mtpa. Together, both Arctic terminals will produce more than 55 mtpa of LNG by 2030.
Although gas production is ahead of schedule, Novatek’s shipping capacities are lagging behind. For Yamal LNG, Novatek ordered 15 icebreaking LNG carriers ice-class Arc7 from South Korea’s Daewoo Shipbuilding Marine Engineering. For Arctic LNG-2, approximately the same number of LNG carriers will be needed. Currently, only 3 LNG carriers are in operation, while the rest are set to be delivered by 2020. However, the company will not own any of the 15 carriers.
Novatek’s fleet ownership is divided between Russian Sovcomflot, Canadian Teekay, Japanese Mitsui O.S.K. Lines, Greek Dynagas and Chinese COSCO and LNG Shipping. Sovcomflot, a Russian maritime shipping company, owns only one LNG carrier –Christophe de Margerie. Hit by Western sanctions, Novatek struggled to fund construction of the terminal, let alone its transportation expenses. The costs of Arc7 class carriers are high – $320 million per carrier, resulting in a shipbuilding deal worth $5 billion.
Novatek’s short- and long-term strategies
As the fleet for Arctic LNG-2 should be domestically built, Novatek developed different strategies. In the short term, Novatek is planning to use 5 nuclear-powered icebreakers (60 MW capacity) owned by Rosatomflot. To cope with the production output, two reloading terminals will be built in Murmansk and in Kamchatka where LNG will be reloaded onto conventional tankers. Alternatively, Norway can be used as another reloading terminal. This will allow the optimisation of the logistics: by cutting the distance of expensive-in-usage icebreakers, the transportation costs will be reduced. The first ship-to-ship operation could already start mid-November 2018.
In June 2018, Novatek signed a strategic cooperation agreement with Sovcomflot to develop an effective logistics model on the Northern Sea Route. “Combining our efforts with Sovcomflot, one of the global leaders in navigation in harsh ice conditions, will allow us to achieve maximum efficiency in managing our transportation costs,” said Leonid Mikhelson, Novatek’s chairman.
In the long term, Novatek considers to order LNG carriers with Zvezda, a Rosneft-led shipyard in the Far East. However, experts say that at Zvezda the costs will be 60-80% higher than those made in South Korea and there is no guarantee of the quality or the delivery date. Zvezda still lacks expertise and experience in building ice-class tankers. A cooperation agreement signed with South Korea’s Hyundai Heavy Industries might compensate it though.
In May 2018, Novatek announced that the company decided to build its own shipping company “Maritime Arctic Transport”. In doing so, Novatek’s long-term strategy is to “optimize transport cost and ensure a well-balanced, centralized management structure to improve the competitiveness of NOVATEK’s Arctic projects,” said Mikhelson.
Both Yamal LNG and Arctic LNG-2 are planned to be in operation all year around, but the non-stop shipping via the Northern Sea Route is complicated by climate factors. As the eastern route is free of ice for only 2-4 months in summer, special ice tankers are needed. To face this challenge, a special icebreaking LNG carrier is to be designed. The contract to build a super-powerful nuclear-powered ice tanker “Lider” was obtained by Rosneft’s Zvezda. Designed to break 4-meter-thick ice, its completion is planned for 2027. The contract was assigned for political reasons rather than based on technical expertise.
Unfair competition between shipbuilding companies, together with the lack of expertise in building ice-class tankers, could jeopardize Novatek’s long-term strategy. It is unclear whether the company will resolve its mismatch between production capacity and export capacity in the near future.