Meeting China's demanding thirst for energy

Meeting China's demanding thirst for energy

Michael Richardson, Singapore

As China's energy demand has climbed in recent years to fuel
its economic growth, Australia and Indonesia have emerged as
important sellers of natural gas to the world's most populous
nation. Lying relatively close to China, they enable it to reduce
dependence on longer haul energy supplies from politically
volatile areas in the Middle East and Africa.

But Indonesia -- the largest exporter of liquified natural
gas, or LNG -- has canceled some contract sales to Japan, South
Korea and Taiwan for 2005 and 2006 because of declining gas
reserves and rising domestic demand. This has raised questions
about its reliability as a supplier of LNG, which is super-cooled
so that it can be shipped in special tankers to foreign buyers.

Meanwhile, China appears to be losing out to Japan in securing
LNG from the Gorgon field, off the northwest coast of Australia.
Gorgon is one of the biggest accumulations of natural gas in the
Asia-Pacific region. The project operator, Chevron Corp of the
United States, said earlier this month that it had agreed to
supply Japan's Osaka Gas Co with 1.5 million metric tons of LNG
annually over 25 years, starting in 2011 -- the year after
commercial production from the giant field is scheduled to start.

The Osaka Gas deal is worth nearly US$7.5 billion. It is the
third major sale from Gorgon to Japanese power companies since
October and underscores efforts by Japan's second largest gas
utility to diversify away from Indonesia, its main source of LNG
imports.

The sale was also another setback for China National Offshore
Oil Corp, CNOOC, which has been in long running and so far
fruitless negotiations to secure LNG supplies from the Chevron-
led Gorgon project. Earlier this year, CNOOC lost a $18 billion
battle with Chevron to take over U.S. energy company, Unocal. It
has big gas reserves in Indonesia and other parts of Asia that
CNOOC wanted to control.

The battle between Chevron and CNOOC over Unocal soured their
negotiations over the terms for sale of Gorgon gas. But China --
a new market for LNG compared to Japan -- finds itself in a
difficult position when negotiating supply contracts, especially
now when demand is rising for LNG as a less polluting alternative
to high priced oil.

With a large and established customer base among utilities and
home users, Japanese companies can afford to pay high prices for
gas to be sure of supply over the long term. Chinese buyers, on
the other hand, have to compete with cheap domestic coal that is
widely used to generate electricity in China. And the Chinese
government regulates the domestic gas price, keeping it well
below current international prices for LNG.

"China is very large potential market, but not immediately a
high gas price market," Fu Chengyu, CNOOC's chairman and chief
executive, told the Financial Times in October. "At the
beginning, if you have a very high price, nobody will use it."

CNOOC signed two big long-term LNG contracts with suppliers in
Australia and Indonesia in 2002. But since then, the spot price
of LNG has more than trebled, meaning that new sales under long-
term contract are at much higher prices than before.

In Indonesia, CNOOC has a contract to buy 2.6 million tons of
LNG a year from the Tangguh project in the country's western-most
province, Papua. It is due to start production in late 2008. The
plant, with a capacity of 7.6 million tons a year, will help to
restore Indonesia's LNG export capability.

Meanwhile, China's initial hopes of becoming a top buyer of
LNG from Australia seem to be fading. Last April, before the
three Japanese utilities clinched their long-term contracts for
Gorgon gas, Chevron and its two partners in the project, Royal
Dutch Shall and Exxon Mobil Corp, agreed to export 2.5 million
tons of LNG annually over 20 years to the west coast of North
America.

This means that Japan and the U.S. between them have tied up
6.7 million tons of LNG a year from Gorgon, leaving spare
capacity for future sale of just 3.3 million tons. CNOOC had
planned to buy 4 million tons a year before the negotiations
foundered over price and other issues.

The writer, a former Asia editor of the International Herald
Tribune, is a visiting senior research fellow at the Institute of
South East Asian Studies in Singapore.