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Sharing out regional gas pipelines

13 July 2017

The adopted and then cancelled decision of the National Energy and Utilities Regulatory Commission (NERC) establishing the payment for using gas networks raised the old problem of ownership of gas pipelines.

The Ministry of Energy and Coal Industry cannot force regional gas companies to pay for the state networks transferred free of charge without signing new agreements with them. At the same time, old agreements together with the attached list of transferred property disappeared from the Ministry’s premises. Furthermore, the state cannot register its ownership of the networks since the country still has no procedure for inventory taking of gas pipelines.


In March 2017, the National Energy and Utilities Regulatory Commission (NERC) shocked the country by introducing recurring fees for connection to the gas supply networks. The newly introduced tariffs on services related to gas transportation and distribution outraged the population, forcing it to ask once again who the real owner of distribution networks is and what people should pay for.

The infrastructure that was built during the Soviet times, billions spent by the local and state budgets on construction of new gas pipelines or paid from the pockets of ordinary citizens – all of a sudden, people were forced to pay for the use of this property again. The funds are supposed to come to regional gas companies (which are privately owned in most cases) which, having received the networks for their use free of charge, were willing to collect the remaining profits they failed to receive in 2014-2015 when the open market was introduced.

In order to understand the nature of ownership of gas pipelines, one has to go back to the distant 1993 when the so-called corporatization of state gas companies began.

One of the first companies created at that time was Zhytomyrgaz. At the initial stage, commissions were formed to assess the cost of property on the enterprises’ balance sheets for determining the amount of the would-be registered capital. It was at that time that, due to the specific features of privatization of the pipeline infrastructure, the gas distribution networks were not included in the statutory fund. The owned fixed assets included administrative buildings, vehicles, tools, furniture, special clothes and equipment, which totaled less than 10% of the entire property of the enterprise (see the Statement of assessment of the value of property of Zhytomyrgaz in 1993).

According to the legislation applicable at that time, there was a notion of general national property in Ukraine. The division into municipal and national property appeared only at a later stage. Therefore, upon taking inventory of gas networks, regardless of the sources of development of the gas infrastructure, they remained in the national ownership.

In 1996, on the basis of a state association, a joint stock holding company, Ukrgaz, was created, which included privatized state-owned gas companies. Two years later, National Joint Stock Company Naftogaz of Ukraine, headed by Ihor Bakai, was created. The new company absorbed the state-owned oil and gas assets, including the partly privatized gas distribution companies, which resulted in liquidation of State Joint Stock Holding Company Ukrgaz.

All gas networks started to be managed by NJSC Naftogaz of Ukraine. Starting 2001, the affiliated company, Gas of Ukraine, controlled by it, signed agreements on transferring the networks to regional gas companies. In addition to the responsibility for preserving and ensuring safe maintenance of the gas infrastructure objects, they were also obliged to invest in their development, modernization and renovation. In accordance with the agreements signed by AF Gas of Ukraine, regional gas companies had to transfer 50% of profits received from using this property for these purposes (but at least 4% of their residual value).

However, the terms of these agreements were constantly violated, money was not transferred, and the state property disappeared. There were numerous attempts to regain control over the state networks with assigning them to AF Ukrgazmerezhi, which was later renamed as AF Naftogazmerezhi, which showed “demonstrational success” only in Chernivtsi and Vinnytsia regions.

According to some statements, such initiatives actually concealed the intentions to redistribute control over Chernivtsigaz and Vinnytsiagaz among the current owners and the structures of Dmytro Firtash.

One way or another, the influence of oligarch Dmytro Firtash in the gas market rapidly increased after 2010. One by one, the structures controlled by him bought shares of regional gas companies from the state, the terms of purchase of which are still kept secret by the State Property Fund (SPF). An excerpt from the SPF response regarding confidentiality of the agreement on purchasing a portfolio of shares of PJSC Zhytomyrgaz.

At the same time, in 2012, governmental resolution No. 770 was adopted, according to which agreements were signed with the then completely private gas companies on free-of-charge use of the state gas distribution pipelines.

Starting 22 November 2012, in accordance with the sample approved by the Ministry of Energy and Coal Industry, currently effective Agreement No. 31/10 was signed, according to which the gas distribution networks were transferred to the balance sheet of PJSC Zhytomyrgaz.

In order to receive copies or access to the text of agreements and attachments thereto, the editorial office had to send several requests to the Ministry of Energy and Coal Industry. After the third attempt, the Ministry responded that it did not have this information and forwarded the request to the SPF, which is responsible for maintaining the Unified Register of State Property.

It contains data about more than 1.5 million state-owned entities, including the networks we were asking for. In our next request, we asked for information available in the register about the state property transferred to PJSC Zhytomyrgaz. However, in the end, instead of an electronic table, we received a 350-page document. It took us a long time to transform it into a digital form suitable for processing.

During the analysis, it was discovered that the value of every third of the 11,260 transferred state-owned property items was below 1,000 hryvnias or zero. In other words, as a result of constant accrual of amortization, they lost their value for the accounting purposes.

Yet, we are talking about hundreds of kilometers of functioning gas networks in the most densely populated cities of the region. Zhytomyr alone has 477 gas pipelines with a zero value. In Berdychiv, this figure is even higher – 760. In total, in the region there are 1,737 state-owned gas infrastructure entities that do not cost anything according to the accounting documents.

The highest number, almost 4,000, is that of gas entities with a value from 1 to 10 thousand hryvnias. A ten times lower figure, namely 382 entities, cost more than 100 thousand hryvnias. However, compared to the previous entities, their cost on average is 80 times higher.

PJSC Zhytomyrgaz in fact uses 100% of the state-owned gas pipelines, which is confirmed by the published NERC report on the results of work in 2016. More specifically, the table attached to the report shows that out of 9,690 km of gas distribution systems serviced by PJSC Zhytomyrgaz the overwhelming majority, 9,320 km (96.2%) are owned by the state and used on the basis of an agreement on economic management. The regional gas company is the owner only of 60 km (less than 1%) of the networks on its balance sheet.


“Regional state gas networks never belonged to Naftogaz, and it will not be able to obtain the ownership of it according to the law,” says Head of the Department for Monitoring, Estimating and Information Technologies of the SPF Veronika Mudra. “In the past, when Naftogaz of Ukraine was founded, portfolios of shares of the local gas companies that were 100% state-owned were transferred to it. In the process, property was identified that was not subject to privatization and was not included into its statutory fund so it remained on the balance sheets of local gas companies and was used by them in their economic activities. To date, the only authorized owner of the state gas distribution systems is the Ministry of Energy,” the official summarizes.

The position stated by the Ministry of Economy in its response to the official request also referred to the decisive role of the leading ministry in managing the property. Since we could not see the agreements signed by the Ministry of Energy and Coal Industry, we submitted another request to it asking it to provide the available documents and attachments thereto.

In response, we received a letter saying that the documents were absent... More specifically, it was written that the original agreements and hundreds of pages of the signed attachments that would confirm the list of property received from the SPF had been stolen. Data were entered in the Unified Register of Pre-Trial Investigations regarding the signs of a criminal offense provided for in Part 1 Article 357 of the Criminal Code of Ukraine, “theft, extortion, appropriation of official documents”.

Criminal proceeding No. 12016100100001961 registered on 15 February 2016 on the fact of the committed crime has been investigated for more than a year by the investigation unit of the Shevchenkivskyi Police department of the Main Department of National Police in Kyiv. Or rather – it has not been investigated at all. The case was closed after two months due to the absence of elements of a crime. The Ministry learnt that the case was closed only… eight months later. The Ministry of Energy and Coal Industry appealed against the resolution on the case closure it received last December in court, and the investigation was resumed.

Interestingly, the agreements were at the disposal of the Head of the Department for Supply Diversification of the Oil and Gas Complex of the Ministry. Until 20 April 2015, the Department was headed by Leonid Nester, a person with many years of experience in the fuel and energy sphere. During various periods, he held positions both in National JSC Naftogaz of Ukraine and in the Ministry of Energy and Coal Industry. As of today, the former official works as Deputy Head of Department of the state-owned company Gas of Ukraine.

We were able to reach Leonid Nester by his office phone and ask him about the initiated criminal case on the stolen agreements.

“I don’t know anything about this. And I do not discuss work-related issue on the phone”, Mr. Nester retorted at the beginning of our conversation. Then he recalled something and assured us he was not involved in any crime.

“As far as I remember, this was a criminal case concerning the fact, and not some specific official. I can’t understand what kind of idiot told you that I am mentioned there in any way as a guilty person”, Leonid Dmytrovych continued to persuade us.

“You were the head of the unit for diversification of the sources of oil and gas supply in the Ministry of Fuel and Energy, weren’t you?”

“I used to be head of department, a long time ago. Back in 2007, the financial and economic department, in this Ministry… And, as you know, in all cases the final say is that of the court. Therefore, I am not going to get involved in washing dirty linen of the Ministry in public. We have law enforcement bodies. Let them probe into all the circumstances. Moreover, they already studied them last year, and they couldn’t find any signs of the crime with regard to all participants. Let them study this case again if the Ministry is willing so much not to see those documents they don’t want to see,” Leonid Nester summed up.


A week after our phone conversation with Mr. Nester, members of the Verkhovna Rada of Ukraine finally learnt about the disappearance of the agreements. Deputy Minister of Energy and Coal Industry Ihor Prokopiv during a working group meeting of the Committee on Fuel and Energy Complex, Nuclear Policy and Nuclear Safety, held on 25 May 2017, publicly said there was a problem, which the Ministry of Energy and Coal Industry could not resolve.

“Honestly speaking, I was shocked with what I heard,” the Committee Secretary, MP Viktoria Voitsitska admitted.

“I remember Minister of Energy Ihor Nasalyk assuring us during the meeting of the government that the agreements on economic management were available in their full scope and securely stored. How do you check availability of the state property if you lack documents?”

In the opinion of the Ministry, groups will be travelling around and checking physical availability of the property as well as preparing for a complete inventory taking until they find the head of the unit who disappeared together with the agreements.

“I have not disappeared anywhere, and the only thing I want is that the Ministry creates a commission for due receipt of all original agreements,” Leonid Nester, who was present at the meeting, astonished everyone.

“They are physically kept in my safe deposit box, for which I pay my own money in order to… By the way, this was done in accordance with the order of the former Deputy Minister Ihor Didenko.”

Later, Leonid Nester started to persuade everyone that it was Ihor Didenko who took “numerous measures” to ensure that the ministers created respective working groups for adopting documents. Since “for some reason” the groups were not created, the then Deputy Minister of Energy and Coal Industry Ihor Didenko ordered to place them in a safe deposit box. After some time, Leonid Nester copied 6,400 pages of documents and attachments with the list of property items, which he forwarded to the oil and gas department. He said the Ministry of Energy and Coal Industry does not have the capacity, power and structure necessary to manage the state property professionally.

None of those present at the meeting could understand why this situation happened.  Neither did they see the reasons why criminal cases turned out to be the only way for returning the original agreements to the Ministry of Energy and Coal Industry.

“Over the last two years, perhaps also with your (Leonid Nester –ed.) assistance, the role of the Ministry was leveled down. Now everything has to be restored”, Deputy Minister Ihor Prokopiv said when responding to the accusations.

“Yet I don’t understand how you were able resign, sign the handover form, and put the state documents in a safe.”

“I am ready to personally share all the details with you. The problem emerged out of nowhere. A person resigned and asked to create a commission for three months. They seem to have been unwilling to officially receive the documents,” Leonid Nester explained.

MP Viktoria Voitsitska offered herself as a mediator in the process of returning the agreements on economic management of gas networks to the premises of the Ministry of Energy and Coal Industry. Leonid Nester politely refused the offer assuring her that all issues could be resolved “in a normal way, without making it known to the wider public”.

No one specified how long this process would take and when it would be completed. The Verkhovna Rada Committee could not even insist on providing the available copies of documents or scanning them.


While the Ministry of Energy and Coal Industry together with investigators were looking for the agreements that had disappeared, the state-owned company Gas of Ukraine paid a nice big salary to the former official every month.

In the income declaration submitted by Leonid Nester, he mentioned in total 296,000 hryvnias he received in 2015, which is approximately 25,000 hryvnias per month. At the same time, the state still has no supporting documents about its own property transferred to gas distribution companies.

Pursuant to the governmental resolution adopted in February 2017, by 1 April of the current year gas distribution companies were supposed to sign new agreements on the use of the state networks. So far, the Ministry has not been able either to sign new agreements with regional gas companies or to start the network inventory taking process. –

“Inventory of the networks cannot be taken without a representative of a regional gas company in the licensed territory,” says Albert Zanhiev, Chair of the Board of PJSC Khersongaz, presenting the position of gas providing companies. Picture of the Chair of the Board of PJSC Khersongaz

“Since no one will believe us, the Ministry of Energy and Coal has to invite an international specialized organization to provide services in order to complete property certification. So, there is an additional task faced by the Ministry, which is to find money in the future to pay for the services related to taking inventory of its own networks.”

Understanding that regional gas companies were not willing to implement resolution No. 95, the government decided to take resolute steps. One of these steps was the opening by the Prosecutor General Office on 15 May of criminal proceedings on the fact of the transfer by regional gas companies of the state networks. The court ruling reads that as a result of violation of the legislative requirements regulating the gas market, the state suffered losses totaling 930 million hryvnias.

If the regional gas companies keep delaying the transfer of networks for paid use, the Ministry of Energy and Coal Industry will have to go to courts to terminate the current agreements, and after this to sign new ones. However, to this end, the original documents that disappeared and, more importantly, the list of the transferred state property, have to be found.

Another problem is that the Ministry still has no registered right to own the state gas distribution networks, which would be an undisputable evidence during the future court hearings on returning the property.

The applicable Ukrainian procedure requires a certificate from the State Property Fund of Ukraine confirming that the data on state property entities were entered in the Unified Register of State Property. However, in order to register the state property, a technical passport of the real estate is necessary. Over the years of independence, the Procedure for Technical Inventory Taking for gas pipelines has not been adopted. The previously affective explanation of the Ministry of Justice on this issue has been cancelled.

While the Ministry of Energy and Coal Industry postpones submitting a request to the Cabinet of Ministers for adoption of the procedure for technical inventory taking of gas pipelines, the Verkhovna Rada manages to adopt next amendments to the laws, which make it impossible to enter any information at all about the ownership right to networks.

At the same time, reactive attitudes at a local level are growing with initiation of applications to the country’s top leadership for returning the networks into municipal ownership.

Some places, for instance, Mukachevo Town Council, have already adopted a decision to return gas pipelines transferred to the regional gas company for economic management to the community ownership.

“This decision protects interests and rights of Mukachevo,” Mayor of Mukachevo Andrii Baloha says.

In the future, the mayor’s office is planning to conduct an expert assessment of the network to be leased by a gas distribution company on competitive terms.

“The requirement of the law on the exclusively paid use by gas distribution networks of the state property is a positive decision. It makes it possible to finally force the government to start registration of ownership rights to the gas distribution entities,” says Roman Nitsovych, Program Manager of the DiXi Group Analytical Center.

“This is a kind of ‘forfeit’ for the mistakes made in the 1990s and 2000s in the policy of privatization and management of the state property. The mismanagement is illustrated by the fact that the original documents on economic management are now kept in a safe deposit box of a private individual, a former official. I hope that in the course of signing new agreements and furthermore – in the process of certifying the property – there will be no attempts to “bounce” this problem between the Ministry of Energy and the state Property Fund. Even if this process takes 2-3 years, it needs to be secured,” Roman Nitsovych is convinced.

The expert is sure that even if payment for using the state network is zero or symbolic – taking into consideration the sensitivity of the topic of tariffs growth for the final consumer – it is important to clearly differentiate networks of various forms of ownership, and to prepare tactical documents for every item thereof. These are the elements of good property management.

Therefore, at the state level one should properly understand all legal nuances regarding the ownership right to gas distribution networks, and only after that start a public dialog about introduction of the principles of the paid use thereof.

Author: Taras Borosovskyi

The investigation was carried out within the framework of the USAID Transparent Energy project. The author’s position may not coincide with the position of the United States Agency for International Development and the DiXi Group Analytical Center.

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