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China pushes natural gas price reforms

The country has announced a price rise as part of wider reforms to bring the sector in line with the international market

China has announced its second major natural gas price increase in as many years as the country moves ahead on reforms to bring domestic natural gas prices into line with international market prices. The National Development and Reform Commission (NDRC), China’s powerful economic planning regulator, said that starting 1 September wholesale prices for non-residential users will rise by 20.5%, around 0.4 yuan ($0.06) per cubic metre (cm). The price rise will only apply to existing supplies. The move will bring prices up to 2.35 yuan/cm, equivalent to around $10.81 per 1,000 cubic feet. That is more than double US natural gas prices but still significantly lower than liquefied natural gas (LNG) in northeast Asia, an increasingly important price marker for China as it imports more LNG.

In addition to the price increase, The NDRC said it was giving up all control over prices of imported LNG, shale gas and coal-bed methane prices, allowing suppliers to directly negotiate sales terms directly with downstream users. “The decision to allow producers to blend imported LNG with unconventional gas and price on a bilateral basis does highlight the government's intention to further liberalise pricing,” Scott Darling, head of JP Morgan’s Asia oil and gas research, said in a research note.

The price increase follows a similar move from the NDRC last July that raised prices by 15%. A further price increase is expected next year to bring all domestic supply prices into line. Further reforms will also start to pass some of the price increases onto some residential users, which have been shielded from higher prices so far. That will be the most politically difficult aspect of the reform for China’s authorities as Chinese consumers have seen prices throughout the economy rise in recent years. 

There are signs that the government is reluctant to move too quickly, though. The NDRC said that only around 20% of residential users will be affected by changes next year. The aim of the reform is to eventually let the market decide natural gas prices, though there is no timeline for full price liberalisation.

Fuel price liberalisation was a key component of the economic reforms laid out by president Xi Jinping last year. Beijing is raising prices to encourage more domestic natural gas production, especially from more challenging tight and unconventional gasfields. Policymakers see increased natural gas consumption as key to reducing coal consumption and cleaning up China’s smog-filled skies. At the same time, however, energy security is a constant preoccupation for policymakers who have been alarmed by the country’s rising dependence on foreign supplies. 

Last year, imports accounted for around 30% of all gas consumed, and that share is expected to rise. Chinese companies have been busy snapping up supplies around the world to meet demand at home. China National Petroleum Corporation (CNPC) signed a long-awaited supply deal with Russia’s Gazprom that will eventually see 30 billion cm piped from Russia’s Siberian gasfields into China.  

The reforms will shift the sector’s landscape. Producers stand to be the biggest beneficiaries. PetroChina, which produces about two-thirds of China’s natural gas, will see the largest gains. As well as seeing higher prices for domestic production the price rise will also help cut losses on its pipeline imports, which have historically been sold at a loss into the domestic market. “We see a more open and flexible pricing structure - increasingly akin to European natural gas markets - as positive for PetroChina,” said Darling. The company has previously said that a 0.4 yuan price increase would boost its bottom line by 12bn to 15bn yuan, or $2bn to $2.5bn, in 2014.  China’s two other major state-owned upstream player Sinopec and China National Offshore Oil Corporation  will also benefit from the higher prices, though to a smaller degree than PetroChina.

The reforms are also positive for China’s burgeoning oilfield services sector. Companies such as Anton Oil and SPT Energy should see more work as higher prices encourage more exploration, especially in technically complex, higher cost fields. “As gas price increases, marginal fields and wells will become economical in our view, leading to more intensive drilling activity,” says Jack Lu, an analyst at Jefferies, an investment bank.  

The reforms are more of a mixed blessing for China’s local gas distributors, such as ENN Energy, China Gas and China Resources Gas, which saw their share prices fall after the announcement. Moody’s analyst Ivy Poon said the higher prices would be negative over the short-term as it faced higher gas costs. “City gas operators in China will continue to face modest margin compression in the next two to three years given the uptrend gas price driven by the government policy,” Poon said. But, those companies will most likely be able to pass the costs on to their customer as they did after last year’s price increase. “Given the cost advantage of gas over other fuels and the monopoly nature of city gas operators in their respective operating areas, Moody's does not expect significant resistance to the cost pass-through,” says Poon.

Jefferies analyst Lu argues that the higher prices will ultimately be positive for the city gas distributors because it will increase the amount of supply available. “Demand for natural gas is not an issue, rather natural gas sales volumes growth for distributors boils down to supply, or lack there of,” says Lu. “Natural gas price reform is critical to ensure the development of China's domestic resources and we believe natural gas price reform is a long-term positive for the distributors.”

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