China's new petroleum structure continues to evolve under reform

Pinghu gas field, in the East China Sea, has come under the aegis of China National Star Petroleum Corp., China's new upstream state oil company, along with China National Petroleum Corp. and China National Offshore Oil Co. Star is preparing an international bid round for prime acreage in the East China Sea, possibly as soon as this year.
Refining units are shown at Shanghai Petrochemical Corp.'s massive refining/ petrochemical complex near Shanghai. China's downstream complexes may face consolidation as the state promotes greater efficiency in its petroleum sector.

After weathering some difficult years recently, China's state oil companies are, to varying degrees, restructuring and undertaking new strategies to revitalize a moribund petroleum sector.

While there are some efforts to trim the red tape that bedevils domestic petroleum companies as well as foreign firms seeking to invest in China's petroleum sector, it is too soon to tell whether some of the new measures will mean increased investment. Much depends on the success of efforts to bring domestic oil and gas and refined product prices in line with world markets without damaging the economy.

At least some of the restructuring measures ostensibly will mean greater transparency in company operations-the lack of which has proven a big stumbling block to success for foreign firms seeking to invest in China's energy sector.

And there are signs that Beijing is providing more opportunities to foreign firms to participate in exploration and development in areas long reserved for domestic firms.

Strategy not succeeding?

Principal state oil firm China National Petroleum Corp. has had little success to point to in 1997 following a low-key year.

CNPC ended 1996 on a quiet note. Except for repeating the almost decade-old strategy of "stabilizing the east and developing the west," it has little to boast regarding its results last year.

The highly touted Tarim basin, in northwestern China, has so far failed to yield any world-class hydrocarbon discoveries. And CNPC has continued to delay fourth round tender of exploration acreage in the highly prospective region.

On the other hand, CNPC has seen some success in efforts to maintain production levels in the aging fields of the east and to discover more oil and gas outside the northwestern frontiers.

While Tarim's postulated elephant-class finds have yet to materialize, CNPC has been able to find more oil and gas in its other major onshore basins, including Junggar, Songliao, Erdos, Sichuan, and the Bohai Gulf Coast (Table 1 [14,132 bytes]). However, as is the case elsewhere in the world, discoveries in mature basins tend to be modest in size.

New blood

With the new year, a new leadership at CNPC has sought to reinvigorate the giant state company with streamlining and restructuring measures.

With Zhou Yongkang as its new president, CNPC plans to introduce a market-oriented approach by shaking loose the interlocking small units of territorial petroleum administrations and forming regional conglomerates. Un- der Zhou's timetable, it will take 2 years to achieve this.

For decades, CNPC has been unable to shake off its image of a powerful but inflexible giant. Given the traditionally slow pace of change in China's government bodies, it has taken a great deal of time and caution to nudge the state giant even in a slightly different direction-like steering a supertanker. CNPC remains far from operating as a market-oriented oil and gas company.

For a start, Zhou has launched a plan to reshape seven of CNPC's 23 bureaus into a handful of independent companies-including CNPC Sales, CNPC Refining, CNPC International E&D, CNPC Technical Service, CNPC Engineering Construction, CNPC Material and Equipment, and Huayou Industrial Development.

However, the most thorny problem facing Zhou is how to increase oil and gas production from currently producing areas and replace that production by discovering new reserves.

While much of that emphasis will center on exploration joint ventures with foreign firms, it is interesting to note the recent flurry of deals involving foreign firms participating in improved or enhanced recovery in China's producing giant fields (Table 2 [33,104 bytes]).

That brings up another key element of CNPC's strategy: stepping up exploration and development in foreign countries. In a series of deals in 1996-97, China has signed major deals to explore for or develop oil reserves in Iraq, Venezuela, Sudan, and Kazakhstan (see sidebar, this page), following a more modest beginning in Peru, Canada, and Thailand in recent years.

CNPC 1996 results

China's government has set a goal of producing domestically 156.4 million metric tons (3.128 million b/d) of crude oil by 2000.

That's a little less than current demand and far below estimates of demand for 2000, ensuring that China will remain a net oil importer for the foreseeable future (OGJ, Sept. 29, 1997, p. 33).

In 1996, CNPC produced 141.45 million tons of oil, 1.6 million tons more than 1995. While that's an increase of only 1%, it's the biggest year-to-year gain in recent years. And it's especially surprising considering the rate of decline in the biggest eastern fields-averaging a combined decrease currently of 20 million tons/year.

Natural gas production, however, last year maintained the 1995 level of 16.3 billion cu m (570.5 bcf).

Daqing, China's biggest producing area, produced 56.009 million tons in 1996, keeping above the 50 million-ton level for 21 consecutive years.

Shengli, China's second largest producing area, continues to fight a losing battle against its natural decline, which stands at an average 13.8%/year in CNPC's established fields.

Shengli produced 29.1 million tons of crude in 1996, after sustaining production at more than 30 million tons/year for the last 9 years.

To sustain production, Shengli's administration has moved offshore, to shallow nearshore area, with some initial success. In 1996, Shengli's shallow water crude production reached 1 million tons. At present, Shengli offshore area has 28 producing platforms and 83 producing wells with a combined productive capacity of 1.28 million tons. With some recent new discoveries in its shallow-water area, Shengli officials are confident that in 3 years, the complex will be able to bounce production back to 30 million tons/year.

Liaohe producing area yielded 15 million tons in 1996, down 500,000 tons from 1995, but the country's No. 3 producing area was able to stick to its goal of keeping production at 10% of the nation's total through 2000. To make up for the natural decline in producing fields, Liaohe will mainly depend on newly discovered reserves in the deeper pay zones, shallow offshore area, and its underexplored eastern depression.

Other major producing areas, including Jilin, Dagang, Huabei, Zhong- yuan, Henan, Jiangsu, and Jianghan, last year managed to sustain or marginally improve upon 1995 production levels.

Xinjiang

Production from Xinjiang autonomous region's three producing basins-Tarim, Junggar, and Turpan-Hami-reached 14.15 million tons in 1996, up 2.56 million tons, or 12%, from the previous year.

Tarim yielded 3.05 million tons, up 21%; Junggar, 8.3 million tons, up 5%; and Turpan-Hami, 2.8 million tons, up 27%.

By 2000, the official target for crude production in Xinjiang is 24 million tons (480,000 b/d).

While still largely untapped, Xinjiang has the biggest potential among onshore China regions for giant new oil and gas discoveries.

Encompassing more than 20 basins, Xinjiang's discovered oil resource totals more than 2 billion tons, with a productive capacity of 18 million tons/year from nearly 50 oil fields.

Tarim

CNPC has regarded the Tarim basin as its trump card for giant oil and gas discoveries. The state company has committed significant capital and effort to exploration there during the past 8 years, but hostile terrain, deep drilling targets, highly fractured reservoirs and complicated geology, and a lack of funds have confined E&D activities to only a few prospective structures.

Tarim remains a largely underexplored basin, with only one wildcat drilled on every 1,400 sq km of basin acreage and 0.27 km of 2D seismic lines/sq km shot.

In 1996, CNPC homed in on 12 exploration areas in Tarim, again targeting the biggest prospective structures.

Of the 23 wildcats drilled in the northern, central, and southwestern parts of the huge basin, 13 flowed or had shows of oil and/or gas, with three yielding commercial oil volumes.

These successful wildcats typically flowed on test at rates of 30-244 tons/day of oil and 2,800-240,000 cu m/day of gas. CNPC concludes that the Tarim basin's Dawanqi, Jinan, Luntai, Niaoshan, and Tazhong-16 pros- pects have the potential to be medium to large sized oil/gas fields, but it wants to further evaluate the areas.

Tarim is a 560,000 sq km basin-more than half of it covered by desert-and its hydrocarbon distribution often defies conventional wisdom, as has been shown by exploration results there to date. In the 8 years since CNPC began assembling a massive exploration campaign in the vast basin, its E&D efforts so far can best be regarded as a necessary process to acquire an adequate store of knowledge about Tarim, rather than yielding a string of elephants.

By yearend 1996, the Tarim basin's crude oil productive capacity totaled about 4.3 million tons.

Junggar

The Junggar basin, with an area of 130,000 sq km and sedimentary thickness of 12-15 km, is the first basin to produce oil in Xinjiang.

Of its 1.3 billion-ton oil resource, 880 million tons are concentrated in Karamay, the basin's sole producing field.

Karamay, just as Daqing is in the east, is charged with the task of maintaining existing production and extending its productive limits with satellite discoveries. The natural production decline averages 6.5-7%/year in Junggar.

In years to come, CNPC will begin to develop 70.03 million tons of un- tapped proven reserves near Karamay.

In frontier areas of the Junggar basin, CNPC discovered three major oil fields: Xiaoguai, Huanma, and Luliang with combined reserves estimated at 50-100 million tons.

Turpan-Hami

The Turpan-Hami basin, which straddles the eastern Tianshan Mountains, features a number of medium to small-sized oil fields.

Exploration and development are now concentrated in the Turpan-Shanshan-Toksun area in the west. There, an oil-prone belt was found in 1996, with reserves estimated at more than 50 million tons.

Future exploration targets include the Permian-Triassic, Toksun depression, and western Aiding Lake slope. The Hami area in the east is virtually unexplored.

Exploration

Pursuing giant oil and gas discoveries since 1993, CNPC has singled out as exploration targets 10 prospective basins.

Each of these basins contain a postulated oil-equivalent resource of at least 300 million tons and prospective acreage totaling more than 10,000 sq km. They include: the group rift basins in northeastern China, deeper pay targets of the Bohai Gulf Coast, Paleozoic system in northern China, Jurassic system in northwestern China, and carbonate rocks in southern China and Tibet.

In 1996, these efforts paid off. With discovered oil and gas resources exceeding CNPC's targets by 28% and 73%, respectively, CNPC added more than 600 million tons of hydrocarbon resources to its portfolio in 1996.

While Tarim has so far failed to live up to CNPC's expectations, the state company did make some encouraging discoveries in the Junggar, Songliao, Sichuan, Erdos, and Bohai Gulf basins.

In the Junggar basin, CNPC discovered an oil field with original oil in place (OOIP) of 100 million tons and two with OOIP each estimated at more than 50 million tons.

In the Erdos basin, a 100 million ton OOIP oil field was discovered on the loess plateau.

In the Songliao basin, Daqing's petroleum administration found two 100 million ton OOIP oil fields. In the shallow water area of the Bohai Gulf, indications are for an additional OOIP of 100 million tons. In Kaijiang, eastern Sichuan, CNPC found a natural gas field with a resource pegged at 50 billion cu m.

In addition, a number of 50-million ton OOIP or smaller oil fields were discovered in medium to small basins, including the Erlian basin in northern China and Santanghu basin to the east of Junggar.

Petroleum contracts

CNPC signed 12 petroleum contracts with foreign companies in 1996, bringing the total number of contracts in force to 30 by yearend.

Four of the 12 contracts are for risk exploration for blocks in the Tarim basin; the rest are for development of proven but untapped reserves or EOR/improved recovery projects in producing oil fields.

Currently, eight more contracts are under negotiation, including four for EOR in Shengli, central Sichuan, and Zhongyuan; one for non-producing reserves development in Dagang; and three for cooperative development of natural gas in Yaha gas field, East Sichuan gas field, and Sebei gas field in Qinghai.

CNPC promised to open more blocks to foreign oil companies before the turn of the century, accommodating an estimated $2 billion for exploration and development by foreign firms.

Changing of the guard

At the end of 1996, CNPC underwent its biggest organizational reshuffle in years, introducing to the world a fresh group of decision-makers and new internal structures.

Wang Tao retired after 111/2 years-first as Minister of Petroleum Industry, then as President of CNPC. His successor, Zhou Yongkang, served as Wang's right-hand man and former vice-president. Wang is now CNPC's senior adviser.

Vice-presidents Qiu Zhongjian and Zhang Yongyi also retired from their posts, although Qiu will continue to head Tarim exploration efforts. Ma Fucai, Huang Yan, and Wu Yaowen are newly nominated vice-presidents to replace the retirees.

The three new nominees were all former assistants to the president. Ma Fucai used to be Deputy Director of Shengli Oil Administration. Huang Yan continues to hold his position of party secretary of Daqing Oil Administration. Before being nominated to the vice presidentship, Wu Yaowen was also the Director of CNPC International Cooperation Bureau, better known as Cnodc.

Senior officials from the top three producers-Daqing, Shengli, and Liaohe-also have been promoted to CNPC's decision-making hierarchy. They are Ding Guiming, Director of Daqing; Lu Renjie, Director of Shengli; and Wang Xiancong, Director of Liaohe.

A new company

Foreign oil companies will have one more partner to work with when investing in China's petroleum industry.

Approved by the State Council on Dec. 7, 1996, and starting operations in January 1997, China National Star Petroleum Corp. is China's third independent state oil company apart from CNPC and China National Offshore Oil Corp. (Cnooc).

It was formed under the auspices of the Bureau of Petroleum and Marine Geology under the Ministry of Geology and Mineral Resources (MGMR), a 30,000 employee organization long engaged in Chinese petroleum exploration, both onshore and offshore.

The State Planning Commission (SPC) is currently preparing the legal framework for Star, with which it can delineate concession blocks for foreign participation.

Meanwhile, SPC is amending two existing regulations to bring Star on a level with CNPC and Cnooc.

Under the "Regulations of the People's Republic of China on Sino-foreign Joint Exploitation and Development of Chinese Onshore Oil Resources (1993)," only CNPC has been allowed to engage in onshore petroleum activities. The same situation applies for Cnooc for offshore JVs under "Regulations of the People's Republic of China on the Exploitation of Offshore Petroleum Resources in Cooperation with Foreign Enterprises (1982)." The revised versions of the two regulations are expected to be disclosed soon.

Foreign investors can expect an immediate benefit from this, as Star is preparing to offer acreage in the East China Sea.

Star has applied to the State Council to launch an international bid round for the 46,000 sq km Xihu depression in the East China Sea, site of MGMR's three registered blocks, considered the most prospective in East China Sea.

Being short of cash and eager to establish itself in the oil arena, Star is banking heavily on the success of this bidding round and has spent the months since its inception selecting blocks and preparing data packages.

MGMR's oil and gas team was one of the first units dedicated to oil and gas exploration in China. It has operated in 76 sedimentary basins and found commercial oil/gas in 35 of them. It has contributed to the breakthrough discoveries, including Daqing, Shengli, Liaohe, Tarim, and offshore fields in the Pearl River Mouth basin. However, the unit found itself with limited power-financial and organizational-to launch large scale E&P efforts without the status of a national oil company.

Conflicts ahead?

Predictably, Star's interests will conflict with the two established state firms, CNPC and Cnooc.

To iron out potential clashes-especially between CNPC and Star-the State Council is reinforcing an oil/gas block registration system. Applications for block registration will be evaluated by the National Mineral Resources Committee (NMRC), and the permits will then be issued by MGMR. Once registered, a block is inaccessible to other oil petroleum units for at least 5 years. The task, formerly performed by the Oil/Gas Registration Office of the SPC, will be handed to NMRC this year.

As a state oil company, Star is directly supervised by the State Council. MGMR recommends the board of directors, while the State Council appoints the chairman and the president.

"The organizational structure and management style will be modeled after Cnooc," said a Star official.

Headquartered in Beijing, Star supervises eight regional bureaus-six onshore and two offshore-and 10 exploration and production units. The bureaus, which will be restructured into oil and gas companies, are now operating in Jilin, Ordos, Jiangsu, Tibet, northern Tarim, Sichuan, East China Sea, and the Spratly Islands regions.

At yearend 1996, MGMR had proven and probable reserves totaling 90 million tons of oil equivalent. This year, beyond its scheduled international bid round, Star plans to add another 50 million tons to this total. By 2000, Star has targeted a total figure of 353-447 million tons of oil equivalent proven and probable reserves and production capacity of 4-4.5 million tons of oil equivalent.

Star also has made overseas E&D a priority from the outset. Again, lack of money poses a problem here as well.

Oil, gas price hikes

China also has take steps this year to bring its domestic oil prices in line with world markets.

Effective Jan. 1, 1997, China's crude oil price rose an average 84 yuan/ton, pushing the current average from 880 yuan/ton to 964 yuan/ton.

Under a circular issued by SPC, the price for first-tier crude, which accounts for 80% of CNPC's crude sales, increased by 120 yuan/ton. The price for second-tier crude remains unchanged at 1,200 yuan/ton.

Sources say China expects to add another 200 yuan/ton to the price of first-tier crude in 1998 to further narrow the gap between the two crude price tiers.

The consecutive price adjustments, including an increase of an average 65 yuan/ton in 1996, are seen as CNPC's struggle to balance its books, with plans to bring domestic crude prices up to par with world crude prices in 3 years.

In recent years, the state has left CNPC on its own, making the state firm responsible for its profits and losses. According to CNPC Sales Co., the price hike will bring CNPC 7.2 billion yuan more in revenue.

In addition to higher crude oil prices, CNPC is also fighting to bring up the domestic natural gas price in 1997. A CNPC proposal calls for adding 0.1 yuan/cu m to the current average of 0.5 yuan/cu m. Among other things, the price of gas for producing fertilizer is expected to increase by 0.08 yuan/cu m, whereas the price of gas for residential use is to rise by 0.1 yuan/cu m.

The proposal is still being deliberated by SPC's Pricing Administration. The proposed price hike will help CNPC to garner another 80 billion yuan in revenue.

CNPC has long been complaining about low domestic natural gas prices, which are far below international levels and barely enough to defray development costs. The reasonable gas price level, industry observers point out, should be about 0.8 yuan/cu m.

Downstream merger

Restructuring is happening on the downstream side of China's petroleum sector as well.

The State Council at the end of August disclosed plans to merge four major petrochemical producers in eastern China's Jiangsu province.

A 100% state-owned petrochemical conglomerate, embracing Yangzi Petrochemical Corp. and Jinling Petrochemical Corp., both under Sinopec; Nanjing Chemical Industry Group Co., under the Ministry of Chemical Industry (MCI); and Yizheng Chemical Fiber Co. Ltd. (YCFC), under China National Textile Council, was to be licensed as a new organization at the end of September.

The four plants, located within 45 km of Nanjing, capital of Jiangsu province, are expected to break ties with their original parents. The new company, as yet unnamed, will come under the direct jurisdiction of the State Council and be supervised by the State Economic and Trade Commission.

Li Yizhong, currently Sinopec's executive vice-president-a position equivalent to a vice-minister-was named chief coordinator and is expected to be appointed by the State Council as president of the new company.

What it means

The new group company, with combined assets of 50 billion yuan, is expected to take care of corporate strategic planning, supply of feedstocks, and human resources, while the four plants will look after their own production and marketing.

The strategic alliance to combine the four was triggered by a project expansion proposed by YCFC, which entails increasing purified terephthalic acid (PTA) capacity to 650,000 tons/year from the present 250,000 tons/year. The proposal was turned down by the State Council because it thinks the expansion is redundant, since Sinopec Yangzi recently completed its PTA expansion to 600,000 tons/year from 450,000 tons/year, sufficient to feed YCFC's polyester production. The two companies have recently been at odds over the price structure for PTA, which was liberalized in 1993. YCFC is one of the largest polyester producers in the world.

The merger, which came with little warning, is ostensibly meant to avoid such redundant capacity expansion; but perhaps of greater significance is the opportunity to enhance operating economies through new efficiencies in the inter-supply of petrochemical feedstocks.

Historically, Yangzi has been a major PTA and ethylene glycol supplier to YCFC. It has also supplied feedstocks to Jinling's 40,000 ton/year phthalic anhydride unit and surfactant facility. After the restructuring, Jinling will be positioned to supply naphtha to Yangzi's ethylene crackers, which now rely on imports for feedstock supply. Jinling is currently feeding Yangzi's aromatics unit with its straight-run cuts.

The merger will also help stabilize the domestic chemical fiber market and help Yizheng get a stable supply of raw materials. China's chemical fiber industry is easily affected by the international market, because 30% of its raw materials are imported.

One urgent issue of concern is whether Yangzi and Jinling will continue to receive crude oil supplies from Sinopec, which acquires them from CNPC under an annual SPC allocation, while the two will no longer report to Sinopec, as in the past. This, along with the supply of imported crude oil and refined products marketing, remains an open issue.

As Yangzi has marked progress with its 600,000 ton/year JV ethylene project with German chemicals giant BASF AG, the State Council has reaffirmed that the merger will not affect the status of the project in the least.

Yangzi plans to proceed with a public offering on the domestic stock market as scheduled in late October, which will pave the way for a float on the international market in the near future.

Most notable is that Yangzi and Jinling have been positioned as the future star performers among Sinopec's coastal refining/petrochemical complexes. Yangzi is now dedicated to optimum refinery-petrochemical integration, and Jinling is to emerge as one of the key processors of Middle East sour crude.

Accordingly, how well they perform might serve as a precursor or even template for further consolidation and restructuring in China's downstream petroleum industry.