Business environment

The war in Ukraine brought another shock to energy markets after the coronavirus pandemic, and highlighted Europe’s overreliance on fossil fuels and Russia that had continued for too long.

The prices of natural gas, hard coal, diesel oil and, consequently, electricity have been volatile in recent years, leading to increased uncertainty, difficulty in making investment decisions, and limited economic growth.

To address this problem, the European Union is taking steps to reduce its dependence on Russian energy supplies in the short term, and ultimately eliminate fossil fuel imports altogether by transitioning to renewable sources. The ORLEN Group's updated strategy, which provides for more ambitious renewable energy goals, aligns with this trend. However, we also keep transitional energy sources in mind in order to be able to ensure security by offering reliable energy supplies. At the European Union level, energy transition has gathered pace rather than receded, driven by the energy crisis and war.

European Union achievements in 2022.

The European Union has made important progress across a range of key energy indicators.

As noted by Fatih Birol¹, Executive Director of the IEA, it is important to acknowledge the European governments’ response to this major and complex energy crisis. Public intervention measures, such as support programmes for renewables, subsidies and preferential loans to finance home upgrades and the installation of heat pumps, as well as campaigns to encourage behavioural change, have contributed to reducing demand for gas.

¹ https://www.iea.org/commentaries/where-things-stand-in-the-global-energy-crisis-one-year-on

Quick adaptation to the lower gas exports from Russia and the price hikes was also made possible by several decades of reforms and policy initiatives, which enabled large customers to reduce consumption, replace imports, and switch to alternative supplies within the well-planned European gas network. Despite this progress, Europe has not yet fully overcome the problems. Looking ahead to the next year, it appears that the oil and gas industry in Europe is facing a fragile situation. There remain several uncertainties that could have a substantial impact.

The commodity crisis and the war have changed our perspective on the development of the energy market in Europe – increasing the role of renewable energy sources and nuclear power.

In 2022, global oil production reached 99.9 million bbl/day, up from the 95.3 million bbl/day produced in 2021. This increase was attributable to two main factors: the ongoing armed conflict in Ukraine, which led to the need for alternative supply sources to replace oil from Russia on the one hand, and high margins coupled with resumed/increased crude processing at numerous refineries worldwide on the other. Given favourable crack spreads, many refineries opted to maximise production. Concurrently, market conditions motivated many oil producers to increase their output throughout 2022, although the situation varied across countries. In some cases production levels did not align with production capacities. In October 2022, OPEC+ countries made the decision to reduce production from November 2022 until the end of 2023 by 2 million bbl/day, the largest cut since the COVID-19 pandemic. The decision was based on weak macroeconomic data and the projected global economic recession (e.g. low GDP growth in China due to the zero-COVID policy).

Source: In-house analysis based on OPEC data

The energy situation in 2022 was driven by several factors, the most significant of which was the Russian-Ukrainian war. In response to Russia's invasion of Ukraine, IEA member states decided on two coordinated releases of oil and fuel stocks in 2022 to mitigate the impact of the war and ensure the availability of crude in that challenging and unpredictable period. The IEA countries, together with the US Strategic Petroleum Reserve, released a total of 240 million barrels of oil and fuels between May 2022 and October 2022 (approximately 1 million bbl/day of crude), which also had an effect on the availability of oil on international markets and the production levels.

In the first half of 2022, the oil market experienced a significant price increase, with both the Brent and WTI benchmarks rising noticeably. Following the outbreak of war in Ukraine, oil prices surged to USD 120/bbl and remained above USD 100/bbl until September. This was mainly due to the geopolitical tensions in Europe. Throughout the second quarter oil prices remained high as the Western countries considered imposing an embargo on Russian oil, which they finally did, and the OPEC+ group maintained production cuts+.

In contrast, the latter half of the year witnessed a gradual fall in crude prices, to approximately USD 80/bbl at the end of 2022. This downtrend was chiefly fuelled by concerns about the condition of the global economy, as the surge in inflation across the world's major economies and anticipated GDP declines created uncertainty among investors. Another factor contributing to lower interest in oil purchases in 2022 was the rising price of the US dollar..

Month-ahead Brent and WTI oil prices in 2021 and 2022.

Source: In-house analysis based on ICE and NYMEX data; month ahead contract – a contract deliverable in the next month.

The key drivers of demand for oil and gas included:

• The Russian-Ukrainian conflict: Russia's invasion of Ukraine was met with widespread condemnation from the international community, resulting in the imposition of sanctions on the aggressor and restrictions on political and economic cooperation. Given Russia’s role in energy markets before the war, the effort to diversify supply sources and directions had an effect on the prices of most energy carriers. This process will continue in the coming years, and the impact of these measures is likely to be reflected in commodity and fuel prices.
• The global economic situation: the high prices of energy carriers are having a significant impact on the functioning of individual economies, leading to an increase in inflation and other economic consequences. In 2022, economic growth was notably lower than in the previous year, and according to the International Monetary Fund's (IMF) forecasts, the situation may worsen in 2023. This is despite China's recent end to its zero-COVID policy, which is expected to increase fuel demand. A global economic recession would affect the consumption of energy carriers.
• The energy transition process, i.e. climate protection efforts: numerous countries are taking measures to reduce emissions of harmful substances into the atmosphere by implementing diverse regulations that restrict the use of fossil fuels. This trend is expected to accelerate, and given the geopolitical situation in Europe, energy security has come to the fore in the public debate, before environmental protection needs.
• Technological progress: as well as exploring new alternative fuels, the automotive industry is also developing innovative ways to reduce the fuel consumption of traditional propulsion systems. This includes improving the efficiency of car engines, reducing the weight of commercial vehicles, use of regenerative braking systems, and more aerodynamic vehicle designs. Technological advances also have an effect on the cost and efficiency of such solutions.

Global oil demand.

Global oil supply

Crude oil supply and demand balance.

The average gas price in Europe in 2022 was 141% higher year on year (based on TTF, THE, NBP and POLPX prices)1, at EUR 112.8/MWh, up from EUR 46.8/MWh in 2021. The Netherlands (TTF) and Germany (THE) experienced the largest price changes, with an average of 162% year on year. On the other hand, the UK saw the smallest growth, at approximately 82%.

Average monthly spot prices of natural gas at selected European hubs.

Source: In-house analysis based on ICE (Intercontinental Exchange) data.

¹ TTF (Title Transfer Facility) – a trading hub and market pricing area in the Netherlands; THE (Trading Hub Europe) – a trading hub and market pricing area in Germany; NBP (National Balancing Point) – a trading hub and market pricing area in the UK; POLPX (Towarowa Giełda Energii S.A.) – Polish Power Exchange.

In 2022, the global energy commodity markets saw unprecedented developments. Following Russia's military aggression against Ukraine, prices for most hydrocarbons rose substantially, with the average price reaching EUR 128.9/MWh in March. The ongoing war disrupted natural price mechanisms, resulting in significant volatility, driven primarily by political statements, speculation and sanctions.

During the period from April to September, there was a sharp decrease in gas supply from Russia. On April 27th, Gazprom completely ceased supplies to Poland and Bulgaria, Stating the two countries’ refusal to pay in the ruble as the official reason. In September, gas shipments from Russia through Nord Stream 1 and 2 were completely halted, first by an equipment failure announced by Gazprom and then by a series of explosions that ruptured the pipelines. Another factor that added to the price pressure during the summer was heavy scheduled maintenance at Norwegian fields, limiting supply of gas to Europe. As a result, in July-August the prices reached record highs, averaging EUR 201.9/MWh. Peak daily prices exceeded EUR 310/MWh on August 25th – 29th in both the Netherlands and Germany.

As gas volumes delivered from countries east of Poland fell by 60% year on year, Russian gas was replaced by increased LNG supplies, which grew by more than 70% in 2022 compared with 2021.

The last quarter of the year was a period of significant volatility. In October and November, there were major price declines, which gave way to substantial spikes in December. These changes were primarily due to weather conditions, including a warm period followed by onset of frost towards the end of the year. The uptrend in gas prices was also supported by EU decisions. The requirement that gas storage facilities be filled to at least 80% as at November 1st drove increased purchases, pushing up the prices.

Main sources of gas imports to Europe.

Source: In-house analysis based on Thomson Reuters data.

The total volume of natural gas imported to Europe in 2022 was 3,756 TWh, of which 43% (1,598 TWh) was delivered in the form of LNG. The volume of pipeline gas imports from Russia (excluding imports to Turkey) fell by 60% (from 1,347 TWh in 2021). Norway was the second largest supplier of gas in Europe, accounting for 1,256 TWh or 33% of total gas supply. Imports from North Africa remained largely unchanged year on year at 376 TWh (10% of total volumes).

In 2022, the global trade of liquefied natural gas (LNG) grew by 6% relative to the previous year, reaching 6,121 TWh of natural gas after regasification.

This increase of 349 TWh was fuelled chiefly by the rapid price growth from the lows seen in 2020. The highest rise in exports in volume terms in 2021–2022 was seen in the US, by 107 TWh. On the other hand, Europe saw the largest increase in imports relative to 2021, both in percentage (62%) and volume (761 TWh), the reason being the need for alternative gas supplies to replace reduced volumes from Russia. At the same time, other regions of the world saw a significant drop in demand for LNG, Mainly as a result of LNG price growth, which decreased imports in countries having access to alternative energy sources.

LNG demand and supply in 2021 and 2022, in TWh m³

The gas price crisis in the European market, due to Russian aggression against Ukraine started on February 24th 2022 and Gazprom's policies, brought a significant decline in gas demand in Poland. Domestic consumption of high-methane grid gas (excluding gas fuel supplied on the OTC market² and POLPX markets) was about 170.4 TWh in 2022. Relative to 2021, the volume fell by 35.9 TWh, or 17.4%, year on year.

The lower gas consumption in 2022 affected mainly customers connected to the transmission grid (-31% y/y), including in particular power plants and CHP plants, the chemical, petrochemical and metallurgical segments. The energy crisis also had an effect on gas consumption by customers connected to the distribution network, which fell by 12.8% in 2022. Another factor behind the decline was the average air temperature in the first and fourth quarters of 2022, which was 1.5o C higher than the year before.

² OTC – over-the-counter

The transmission system and existing and planned cross-border entry points.

Source: GAZ-SYSTEM and European Network of Transmission System Operators for Gas (ENTSOG).

The Baltic Pipe is a strategic infrastructure project that has created a new gas supply route on the European market by Enabling the transmission of gas directly from Norwegian fields to the markets of Denmark and Poland.

In 2022, the volume of gas imported to Poland fell by 175.4 TWh year on year (a decrease of 8% y/y), with supplies from sources east of Poland down by 58%, while supplies from the EU rose by almost 48%. Only 27% of gas was delivered from the eastern direction in 2022.

Gas flows at Poland’s gas grid entry/exit points

In 2022, the volume of LNG received at the Świnoujście LNG terminal increased significantly relative to 2021.

PGNiG/ORLEN received a total of 18 LNG shipments under long-term contracts with Qatargas. LNG imports from Qatar totalled about 1.65 million tonnes, or about 25.2 TWh of natural gas after regasification. Furthermore, in 2022, PGNiG/ORLEN purchased gas under 35 spot contracts, its volume totalling 2.37 million tonnes, i.e. ca. 36.3 TWh of natural gas after regasification. The gas was supplied from the US, Nigeria, Trinidad and Tobago, and Egypt. The deliveries were made with the support from the London LNG trading office (PST). In 2022, PGNiG/ORLEN also received LNG shipments under a long-term contract with Cheniere Marketing International and a medium-term contract with Centrica.

In June 2022, the Council of the European Union adopted a regulation providing that underground gas storage facilities should be filled up to at least 80% of their capacity in each EU Member State by November 1st 2022 and to 85% EU-wide. The target for each Member State in the following years was set at 90%. As at November 1st 2022, gas storage facilities in Poland were filled to 99% of capacity, and in the entire European Union to 95%.

In 2022, the average daily withdrawal of gas from Polish underground storage facilities over the withdrawal periods (January–March, October–December) was 41 GWh, a decrease of 53 GWh on the previous year. In the summer season (April-September) of 2022, gas was injected into storage at an average rate of 68 GWh/day, that is 45 GWh/day less year on year.

At the end of 2022, Polish gas storage facilities were filled to approximately 97% of capacity, a 12pp increase on year-end 2021. Other European markets also saw much higher gas stocks in storage: in Germany, the storage facilities were filled to 90% of capacity, compared with 50% as at the end of 2021; in the Netherlands – 77% of capacity, 41pp more year on year, and in Austria – 87% of capacity vs 35% the year before.

Levels of gas in storage in Poland in 2021–2022.

Source: In-house analysis based on the operators’ data.

Contracts traded on the POLPX in 2021 and 2022.

Source: In-house analysis based on POLPX data.

ORLEN is the leader of gas trading on the POLPX. According to POLPX data, in 2022 the total gas trading volume was 141.6 TWh, of which 118.9 TWh was traded on the commodity futures market (RTT). This means that almost 84% of gas trades in 2022 were executed under contracts with maturities of a year, season (summer, winter), quarter, month, and week.

Natural gas trading volumes in 2022 were down by 21.7% from the record year of 2021. In 2022, spot market trading volumes were 18 TWh in the day-ahead market and 4.7 TWh in the intraday market, down by 17.5% and 30.5%, respectively, from 2021. The trading volume on RTT fell by 21.9% year on year.

Commodity futures (RTT) trading volume on the POLPX in 2021 and 2022 (TWh).

Source: In-house analysis based on POLPX data.

In 2022, prices of natural gas in Europe rose sharply relative to prices quoted at the US Henry Hub, which also moved up but to a smaller extent. The average natural gas price at the Dutch TTF Holdings Hub during that period was EUR 132.1/MWh, having increased more than 180% relative to 2021. Year on year, the prices of natural gas at the Henry Hub rose by 10.43%, to the average of EUR 21.18/MWh. As a result, the average gas price in the United States was up 97% at that time. The spread between those two trading points grew by over 204% last year, by EUR 74.5/MWh, to reach an average of EUR 110.92/MWh in 2022. The largest price spread of EUR 206.37/MWh was recorded in August.

Average monthly front-month gas contract at the Henry Hub and TTF in 2021 and 2022.

Source: In-house analysis based on NYMEX and ICE data. Front-month contract - contract with the delivery date in the following month.

In 2022, the average spot price of gas in Poland was EUR 125.72/MWh, up by EUR 76.94/MWh year on year. Gas prices in Poland were strongly correlated with those in Germany and on the European markets in general. The average spread between spot prices (for day ahead products) on the POLPX and the THE in 2022 was EUR 4.45/MWh, up by EUR 1.97/MWh (79%) year on year. The reported increase in the spread between average closing prices on the Polish and German markets was not attributable to any fundamental changes (such as higher transmission costs), but was caused by sharp price spikes on the gas market seen throughout the previous year, especially after the outbreak of war in Ukraine. Combined with the earlier closing time of the POLPX relative to western exchanges, this meant that the closing prices in Poland were unable to follow the gas price changes, and the POLPX price was only able to catch up with prices quoted at the Western European hubs on the following day, at the time of market opening.

Average monthly spot natural gas prices in Poland and Germany in 2021 and 2022.

Average monthly spot natural gas prices in Poland and Germany in 2021 and 2022Source: In-house analysis based on POLPX and EEX data.

Spot natural gas price on the POLPX, TTF and THE exchanges in 2021 and 2022.

Source: In-house analysis based on POLPX and EEX data..

The power sector is undergoing rapid technological changes and this is reflected in ORLEN’s updated strategy. The war in Ukraine has highlighted the importance of investments in renewable energy sources, which support greater energy independence. But there are more advantages of wind and solar photovoltaic farms: a significant reduction of costs has made renewables cost-competitive relative to conventional counterparts without any subsidies, even before the recent surge in the prices of energy carriers such as coal and natural gas. This is true of both onshore wind assets (with the average global LCOE down 68%, from USD 0.102/kWh to USD 0.033/kWh between 2010 and 2021) and offshore farms (with the metric down 60% over the same period, from USD 0.188/kWh to USD 0.075/kWh). For large-scale solar PV systems, the cost reduction has been even more pronounced, coming to 88% (USD 0.417/kWh, to USD 0.048/kWh). According to BloombergNEF data, solar or onshore wind energy is the most cost-effective source of electricity in the countries that account for 96% of its generation.

Offshore wind farms globally

Offshore wind power as an energy generation technology has been rapidly developing over the last decade and is perceived as one of the leading energy sources of the future. This is largely due to zero CO² emissions, technological progress and lower electricity production costs. The first commercial large-capacity offshore wind farms were built around 2010 and the industry has been developing rapidly since then. This has manifested itself mainly in technological advances and growing unit capacity of the offshore wind infrastructure (from about 3.6 MW to 15 MW in the case of turbines offered by market leaders), and consequently – larger foundations installed at greater depths. This growth drives demand for ever larger components, installation vessels etc., as well as ports of suitable sizes to receive them. At the beginning of 2021, offshore wind farms all over the world had installed capacity of 35 GW, of which 28 GW was located in Europe. The European market leaders are the United Kingdom (about 12.7 GW), Germany (7.7 GW), the Netherlands (3 GW), Belgium (2.3 MW), and Denmark (2.3 GW). However, it should be noted that further projects are being developed and that at the end of 2030 the installed capacity of all offshore wind farms is expected to exceed 270 GW. Further development of the industry in these countries will be accompanied by growth on new markets, including the US, France, Taiwan and Poland. European countries (the UK and Germany) will certainly remain the market leaders with the largest number of completed farms, and this group will be joined by the US, being a new player, which is currently developing a number of new projects and investing extensively in its own supply chain

The Zoning Plan identifies zones where offshore wind farms will be developed, such projects having priority over other activities in that part of the Baltic Sea. These zones are characterised by conditions favourable to offshore power generation (estimated average wind speed at the hub height: 9–10 m/s, insignificant tides, low salinity, and total area of approximately 2.5 thousand km²).

Since December 2021, it is possible to apply for further permits for the construction and use of artificial islands, structures and facilities in Polish marine areas (PSZW permits). The applications cover 11 areas identified in the Zoning Plan. They will be assessed against criteria set out in the Regulation of the Minister of Infrastructure of November 27th 2021 on the assessment of applications in award proceedings.

Such assessment will be the basis for issuing, pursuant to the Act on Polish Marine Areas and Maritime Administration, PSZW permits, enabling the preparation of further offshore wind projects in Poland. ORLEN Group companies have applied for PSZW permits covering all the 11 areas.

At present, development work is under way on projects for which permits to construct and use artificial islands, structures and facilities have already been obtained. These are:

• Baltic I (Polenergia/Equinor),
• Baltic II (Polenergia/Equinor),
• Baltic III (Polenergia/Equinor),
• Baltic II (RWE),
• B-Wind (EDPR/Engie), 
• C-Wind (EDPR/Engie),
• Baltic Power (Baltic Power from the ORLEN Group/Northland),
• Baltica 1 ( PGE),
• Baltica 2 (PGE),
• Baltica 3 (PGE).

In February 2021, the Act on the Promotion of Electricity Generation in Offshore Wind Farms entered into force in Poland, providing a legal framework for the implementation of offshore wind farm projects in the Polish part of the Baltic Sea. In accordance with the new regulations, in the first phase of the support scheme for offshore farms with a total installed capacity of 5.9 GW aid will be granted by way of an administrative decision by the President of the Energy Regulatory Office (URE). Further projects will participate in auctions organised on a competitive basis. The first auction will be held in 2025 and the second one in 2027 (each for farms with a total installed capacity of 2.5 GW).