China – paradigm shift to shale gas

Games are-a-changing almost constantly nowadays, and estimates from the US Energy Information Administration (EIA) that the Peoples Republic of China has some 1275tnft3 of technically-recoverable shale gas, enough to last around 300 years, can certainly be regarded as a significant one. While China is not producing shale gas commercially at the moment it cannot be long before the assumption that the global super economy can and indeed will continue to a major importer of its energy needs must be put into doubt.

During the summer of 2011, Reuters reported that an unnamed official with the China National Petroleum Corporation (CNPC) had been quoted in the Chinese media as saying that China had plans to produce 6.5bnm3 of shale gas by 2015 with the intention of pushing that to 80bnm3 by 2020. Reuters further said that the plan had been mostly compiled by the Chinese National Energy Administration (NEA), noting that China, to achieve the targets would have to go from zero shale gas production to the equivalent of 85 per cent of its natural gas output in 2010 in 10 years or less. Reuters also reported that China intends to boost its coalbed methane production to between 21.5-23.5bnm3 by 2015.

Speaking to an audience of analysts in Hong Kong in August 2011 about the company’s half year earnings, China National Offshore Oil Corporation’s (CNOOC’s) CEO, Yang Hua, said, “We believe stepping into unconventional resources has a strategic significance to our long-term growth.” The company has Canadian oil sands interests and investments in shale gas projects in the US. “The industry is fully aware of the importance of unconventional resources. Major oil companies have started to shift their investments from conventional to unconventional,” said Yang.

Oil and gas companies in the main, in the western world, are either corporations or privately-owned independents developing strategies that will work within a regulatory framework for the benefit of investors and owner/operators. China’s major players such as CNPC, CNOOC and Sinopec are, although outwardly having all the trappings of a major corporation, state owned and, by definition, we should probably infer that their strategies go quite a bit beyond the realm of simply making profits for investors.

For China to make any kind of paradigm shift towards massive shale gas production, and it must to achieve its reported targets, it will need to develop its own shale gas exploration and production industry and the quickest way to do that is to buy or hire the knowledge, experience and technology that the US’s shale gas boom has spawned. An example in progress for acquisition at the moment is the media stories that have been flying around about US shale gas services specialist Frac Tech Holdings LLC where reportedly, CNOOC and Sinopec are vying for a 30% stake in the company. Another state-owned giant, Saudi Aramco has been reported as bidding too in a deal that could be worth around US$2bn.

There have been other signs as well. In January 2011, CNPC and Italian energy company Eni SpA announced the signing of a memorandum of understanding (MoU) to develop unconventional projects in Africa and also for CNPC to undergo feasibility studies as to buying into some of Eni’s projects, while Eni said that the shale gas experience it had gleaned in the US could be put to use to assess CNPC’s domestic opportunities. One month later, CNOOC revealed that it was to spend US$570m on shale gas leases from Chesapeake in the US. While in March 2011, Royal Dutch Shell CEO Peter Voser said that the company planned to spend US1bn per year for the next five years on drilling for shale gas in China in the promising plays in the south west of Sichuan province. Moreover, in June 2011, Shell set up a joint venture with CNPC in addition to a shareholders’ agreement to set up a joint venture for drilling technology. And, in July, Eni signed a MoU with Sinopec to enhance its ties with Chinese hydrocarbon enterprises with Eni being particularly interested in developing shale gas in China. More recently, US independent Breitling Oil and Gas is reportedly in talks with a Chinese company with a view to shale gas development in China. “Chinese oil companies do not care much about money. They want technologies in developing shale gas,” Breitling’s CEO Chris Faulkner told reporters. “Negotiations have been going on for the entire year.”

Therefore, it would appear that the shift to shale gas in China is already well underway and while the geology for shale gas drilling has been reported as being more difficult in China than in the US, it is unlikely, given the way in which the Chinese nation goes about achieving a goal, that geology will get in the way for long. Also, China is a much more populous country compared to the US and there will be challenges in that regard too. On a cynical note, however, with state-owned companies involved in the shale gas production process the regulatory framework may be, could we say, a little looser than elsewhere?

Right now there is somewhat of a gap up until 2020 in terms of natural gas for China and this may have been behind the recent move by Sinopec to take most of the Australian gas export joint venture between ConocoPhillips and Origin Energy Ltd where Sinopec will take 3.3Mt of LNG from the Australia Pacific LNG project that is proposed to be built at the port of Gladstone in Queensland. LNG markets, especially for the Asia Pacific region, have taken off since the nuclear disaster in Japan in March 2011. However, given the shale gas that China has and clearly intends to exploit, is a great deal of the LNG boom simply a medium-term sweet spot up in the run-up to 2020? Companies that have LNG trains and vessels already under construction to be operational up until 2015 and shortly after, could well still cash in but post-2020, unless there is another game-changing event on the cards, then investors that come late to the party could find little but scraps on the table.