The investment in PetroChina (HKSE:00857) is a reflection of our participation in China’s reforms that are occurring both in the energy sector, as well as for China’s state-owned enterprises (SOEs) in general. China has been reliant on highly polluting coal to generate 77% of the nation’s power while natural gas only contributes 4%. Natural gas is much less polluting compared to coal and is one of the more practical ways in diversifying energy sources and reducing air pollution. Gas production is forecasted to grow rapidly as China targets to increase gas usage from 4% to 10% by 2020. PetroChina is a major beneficiary of gas development as it comprises 61% of China’s domestic gas production, which also represents 35% of PetroChina’s total upstream energy production. Furthermore, gas prices have historically been set artificially lower than market prices by the government. There is currently a 40% gap in pricing between natural gas sold in China and the price that is targeted by policymakers. This gap is expected to be narrowed by 2015.
Using industry analysis such as the EV/PV-10 metric (net future cash flows from future reserve production are discounted using a 10% rate), PetroChina currently trades at 1.3 times, a significant discount to its peers’ average of 1.8 times. We believe if reform drivers continued, it will help accelerate the unlocking of value from the company going forward.
PetroChina is the largest integrated oil company in Asia in terms of market capitalization. Exploration and production assets consist of crude reserves of nearly 11 billion barrels, and gas reserves of over 69,000 billion cubic feet. This is complemented by a pipeline network of over 71,000 km in China. Its downstream assets consist of refining, and a service-station marketing network of over 20,000 stations, which benefits from the current focus of oil price reforms. In 2013, the company produced 933 million barrels of oil (“BOE”) and 2,802 billion cubic feet of gas, mostly in China. Crude production grew by 1.8% and gas production grew by 9.5% compared with the previous year. Gas is expected to drive growth over the next five years, supplemented by pipeline investments of over RMB370 billion since 2002. PetroChina is expected to benefit from growth in gas usage as China targets to diversify their energy reliance from coal. PetroChina is also set to benefit from further promotion of the new pricing mechanism of natural gas, as the government announced in June the lifting of the city-gate gas price, adding they would strive to bring existing gas prices up to new gas levels by the end of 2015.
From Value Partners (Trades, Portfolio)’ Classic Fund Second Quarter 2014 Commentary.
