Fitch Ratings-London-14 January 2013: Gazprom's sales are likely to fall further in 2013 as weak economic conditions lead to continued low demand in Europe , the company's key market for natural gas, Fitch Ratings says. Russian gas production data for 2012 indicate that Gazprom's European and FSU gas sales fell slightly more than we expected.

Europe and the FSU remain key markets for Gazprom, which has a monopoly on the export of Russian natural gas. For example, in H212 it generated over 76% of its revenue from sales of gas outside of the Russian Federation , which accounted for only 44% of its gas sales by volume. The drop in European gas volumes and prices was partly caused by litigation by some of its European gas buyers, and price renegotiations and compensation payments that followed. This shows that Gazprom's position in Europe remains somewhat challenging, as we highlighted in "2013 Outlook: EMEA Oil and Gas", published on 13 December 2012 .

We nonetheless believe that prices and volumes of European gas consumed under take-or-pay arrangements will not dramatically change in the foreseeable future. Take-or-pay provisions usually cover 80% of contractual gas volumes; therefore there is some headroom for gas volumes to fall before triggering the take-or-pay clauses. Gazprom's concessions to European buyers represented no more than 10%-15% of the total oil-based price, leaving the prices under these contracts well above market gas prices, which are now almost delinked from the oil price. Our view is that Gazprom will have to continue negotiating further concessions with those European buyers that may have alternative sources of gas supply.

We forecast that eurozone GDP will contract by 0.1% in 2013, following an expected 0.5% contraction in 2012. The trend should reverse in 2014, when we forecast 1.2% GDP growth. We expect that gas demand in Europe will continue to be weak in 2013 and may start increasing in 2014.

The market abuse investigation, launched into Gazprom last autumn by the European Commission, also continues. We do not forecast any rating implications for the company as a result of this investigation, but it may eventually weaken Gazprom's negotiating position with some of its key European buyers, and have a long-term financial impact.

Last week the Russian Ministry of Energy said that total natural gas production in the country fell by 2.2% in 2012 to 655 billion cubic meters (bcm), while Gazprom's gas production declined by 5.1% to 482bcm. Russian gas sales abroad in 2012, mainly to Europe and the FSU, fell by 8.7% to 186bcm. Gazprom previously reported a 10% volume drop in H112 sales to Europe and a 29% volume drop in sales to the FSU countries.

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