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Sarfaraz A. Khan
Sarfaraz A. Khan
Articles (62)  | Author's Website |

This Oil Giant Is Out to Achieve China’s Shale Gas Dream

November 09, 2013 | About:

The improvements in drilling technology, which led to a boom in the U.S shale gas production, have drastically changed America's energy landscape. The unconventional gas now forms a substantial part, nearly 40%, of the total U.S dry natural gas production. Both, U.S and Canada, have enormous reserves of technically recoverable shale gas but according to the U.S Energy information Administration, China is home to the world’s biggest recoverable shale gas reserves. In fact, China is also the only country, besides the U.S and Canada, which produces shale gas in commercial quantities. However, unlike the two North American nations, in 2012, China’s shale gas output was less than 1% of its total natural gas output.

China severely lacks in infrastructure which is one of the key hurdles in achieving the country’s dream to emulate the U.S shale gas boom. However, the state owned oil giant Sinopec Corp (NYSE:SNP) is undeterred. In a significant development for China and Sinopec’s shareholders, for the first time ever, Sinopec started pumping shale gas in commercial quantities from the test well.

Hunting for Shale Gas

Sinopec drilled around 30 pilot wells for shale gas in the China’s southwest area called Fuling. This area is a part of the Sichuan Basin that is considered as one of the most resourceful areas of shale gas reserves. According to the company officials, Sinopec is pumping around 1.06 million cubic meters of gas at a daily combine rate, in other words, around 180,000 cubic meters on an average from each of its wells. In fact, one of these wells has a daily production rate of around 547,000 cubic meters.

As a result of fruitful pilot drilling results, Sinopec’s Jianghan unit has increased its 2015 production target, from Fuling, by more than double to 5 billion cubic meters per year. To achieve this target, Sinopec will have to substantially increase its drilling activity as it needs around 170 wells producing at an average of 100,000 cubic meters per day.

Going for Efficiency

Drilling for shale gas is a very complicated and an extremely expensive operation. Sinopec's current drilling cost per well is around $15 million. If it drills 170 wells by 2015 then its income statement will take a massive hit of $2.5 billion. To overcome this challenge, Sinopec is targeting cost savings by drilling several wells at a time, horizontal drilling and through recycling of fracking liquids. Through these, and other measures, Sinopec is planning to bring this cost down to a more reasonable $1.3 billion.

China: Where Is the boom?

No other oil major is playing a bigger role in developing China’s massive unconventional energy reserves thanRoyal Dutch Shell (NYSE:RDS.A). A few year ago, Shelljoined hands with the state owned China National Petroleum Corp. more commonly known through its subsidiary PetroChina (NYSE:PTR), started developing the country’s shale gas reserves. The full cost of Shell’s project is not known but the company is betting big; it will invest at a rate of $1 billion per year in the country’s unconventional energy sector. However, the progress has been slow. Shell’s drilling plans are still in their early stages and so far, it has drilled just 30 wells.

The shale gas revolution in the U.S reduced America’s reliance on foreign oil but the supply glut also caused a significant decrease in natural gas prices, which created a very challenging business environment for the U.S natural gas industry. This is the primary reason why the natural gas giant Chesapeake Energy(NYSE:CHK) almost went bankrupt. Therefore, unlike the U.S, China is being cautious. If China follows in the U.S.’s footsteps then a shale gas “boom” could create problems for investors of companies like Sinopec, PetroChina and Shell; just as it did in the U.S for investors of the natural gas producers.

However, despite the slow start, investors shouldn't panic. China has extensive reserves of shale gas and its appetite for energy is unparalleled. The country has little options but to tap into these reserves. In 2011, China sets its five year plan in which it set an ambitious target of generating shale gas at an annual rate of 6.5 billion cubic meters by 2015. This would increase to 60 to 100 billion cubic meters by 2020. Although I do believe that the 2020 target looks overly ambitious, particularly since this year, China’s production of shale gas is estimated to be around just 200 million cubic meters. But if Sinopec delivers on its promise, then at least China’s 2015 dream could become a reality.

Disclosure: This article was written by Sarfaraz A. Khan, with valuable contribution from Gohar Yousuf, research assistant at Half Bridge Business Review.Neither Sarfaraz A. Khan, nor Gohar Yousuf have any positions in the stock(s) mentioned in this article.

About the author:

Sarfaraz A. Khan
Sarfaraz A. Khan is a capital market analyst and finance writer. His specialty lies in energy stocks. He also covers consumer goods, services sector, technology stocks, emerging markets and ETFs. His work appears on TheStreet, Seeking Alpha, Motley Fool and GuruFocus.

Visit Sarfaraz A. Khan's Website

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