Saturday, September 03, 2005

Intelligence Brief: China's Energy Acquisitions

Drafted By: Erich Marquardt

China's biggest state-owned oil company, China National Petroleum Corporation (C.N.P.C.), said on August 22 that it would pay US$4.18 billion for the acquisition of PetroKazakhstan, a Canadian oil company that also trades in New York. The Canadian company has large oil reserves in Kazakhstan.

If the purchase is approved, it will be China's biggest foreign acquisition yet. Indeed, it is more than twice the price of what China's Lenovo Group paid for IBM's personal computer business.

C.N.P.C. agreed to pay $55 in cash for each share of the company. Furthermore, it agreed to pay $76 million for the creation of a spin-off company led by the current chief executive of PetroKazakhstan, Bernard F. Isautier. If the C.N.P.C. offer is accepted, the deal will go before PetroKazakhstan's shareholders in the first half of October. The deal must then be approved by two-thirds of the company's shareholders. A clause, however, has been worked into the deal that if PetroKazakhstan accepts a higher offer than what C.N.P.C. bid, it will pay a $125 million penalty to C.N.P.C.

The purchase of PetroKazakhstan will go hand-in-hand with China's construction of a 988 kilometer (614 miles) oil pipeline that runs from Atasu, Kazakhstan to Alashankou, China; the oil control earned through the purchase of PetroKazakhstan will partly fill this pipeline and help to satiate China's growing thirst for oil. In the words of PINR analyst Dr. Michael A. Weinstein, "In order to achieve its goal of transforming China into a comprehensive world power, Beijing must have secure access to raw materials in markets that have become increasingly competitive and tight, due in great part to China's growth."

Chinese companies have been scouring the market for foreign acquisitions, seen through the Lenovo Group purchase, the failed China National Offshore Oil Corporation bid for Unocal, the failed Haier America Trading bid for Maytag, the current bid on PetroKazakhstan, in addition to numerous smaller bids.

India and China Square-Off

India's state-owned Oil and Natural Gas Corporation (O.N.G.C.) first bid on PetroKazakhstan, offering $3.9 billion. It is not clear whether O.N.G.C. will try to top the C.N.P.C. bid, but, as of now, this is considered unlikely.

India and China, the world's most populated countries, are in a flurry of activity to purchase energy assets since both of their economies are achieving tremendous growth, boosting their demand for energy. Additionally, as they become more dependent on energy, they become more vulnerable to energy disruption. By acquiring foreign energy assets, India and China will be in a better position to secure their energy stability, especially when buying influence in energy stakes near their borders.

For instance, India imports 70 percent of its oil; China imports about 40 percent. As their demand for energy grows, so will their need for imports. These needs are behind the two countries' drive for energy acquisitions. Indeed, it was behind China's attempt to purchase U.S. energy company Unocal, offering $18.5 billion. Unocal accepted a rival bid by Chevron after the Chinese bid created an uproar in the U.S. Congress and revealed the trend toward economic nationalism inside the U.S. [See: "Intelligence Brief: Economic Nationalism"]

While both India and China are competing over energy acquisitions, there has also been talk of cooperation. While the United States has been courting India to act as a strategic ally in the region -- to the dismay of China -- New Delhi has not yet committed to this role. Throughout the Cold War, the country stood as an important Soviet ally, and is presently wary of U.S. support of its major rival, Pakistan. While it has shared tense relations with China due to the 1962 border war, its relations with Beijing have improved in recent years. Its current foreign policy has been to maintain good relations with China, while reaping any benefits to be had by improving relations with the United States. [See: "Courting New Delhi: Washington and Beijing Compete for Influence"]

For instance, Indian Petroleum Minister Mani Shankar Aiyar recently explained that "China and India [need] to adopt a collaborative approach in bidding…whenever possible." Aiyar explained that energy companies from the two countries will "cooperate" and "compete," depending on the situation. "Hopefully," Aiyar explained, "we will cooperate more than we compete." Near the end of the year, Aiyar will visit China and at this time there are expectations that oil giants from the two countries will draft memorandums of understanding in order to foster relations between them.

The Role of Russia

Both India and China have improved relations with Russia, an oil exporter and a neighbor to both countries. The three huge states have an interest in stabilizing the countries of Central Asia that lie among them. Russia wants to prevent parts of its own territory from breaking away, and to prevent unfriendly regimes taking power in the former Soviet states while India and China want to exploit the region's energy resources and realize that political stability is necessary for this end. Additionally, Beijing has to remain vigilant over its potentially separatist-minded Xinjiang region. [See: "China's Xinjiang Region: An Area of Strategic Interest"]

Furthermore, all three countries -- but especially China and Russia -- recognize the potentially destabilizing effect that the United States has in the region. A number of colored revolutions, often inspired by the West, have upset the power structure in the region. Both China and Russia seem to agree that a change in the status quo is not desired, and that if both countries lean on the former Soviet states, it will produce favorable results. This logic explains why the Shanghai Cooperation Organization (S.C.O.) -- which is led by Russia and China, and makes up the former Soviet states -- released a statement calling for the withdrawal of U.S. troops from the region. India holds observer status in the S.C.O. [See: "The 'Great Game' Heats Up in Central Asia"]

Nevertheless, this cooperation does not mean that China and Russia are forming a united bloc in the region. It is true that their interests overlap when it comes to limiting Washington's influence in Central Asia. Russia also acts as a source of military equipment and energy supplies for China and, on the other side of that, China acts as a wealthy patron of Moscow's wares. However, they are not united on all matters of foreign policy and security arrangements, although this state of affairs could certainly change in the future.

The Bottom Line

China's recent energy acquisitions display the country's concern over its energy assets. Beijing will encourage its companies to continue to acquire foreign energy firms in strategic industries that Beijing wishes to influence and control. This is why Chinese firms have been showing much interest in the energy resources of Central Asia and the Caspian Sea region.

Indeed, PetroChina President Jiang Jiemin -- whose parent company is C.N.P.C. -- announced that due to its 36 percent jump in earnings during the first half of 2005, "overseas acquisition is our major strategy." Therefore, as China continues its economic growth, expect it to continue to encourage its companies to acquire foreign energy assets; furthermore, expect the Chinese government to attempt to stabilize the areas where its vital pipelines cross. Beijing will also attempt to keep good relations with India since China's current overall strategy is to minimize conflict so its growth as a power is not derailed. [See: "China's Geostrategy: Playing a Waiting Game"]


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