The Chinese art of persuasion
Recent Chinese NOC activity in the South China Sea underscores a growing interest in the disputed region, as Beijing seeks to bring regional states around to its way of thinking
China is adopting a lower-key approach in the South China Sea as it looks to build up oil and gas production capacity. The region covers a wide range of exploration basins, from the mature (Pearl River Mouth, Sarawak) to potentially higher impact frontier basins, such as deepwater Sabah and Phu Khanh.
Chinese national oil companies (NOCs) have set themselves ambitious expansion targets. In its 2018-25 plan, Cnooc aims to double its proven oil and gas reserves by 2025 to about 5bn bl oe. That means making more discoveries on the same scale as its 100bn m3 Lingshui gas find in the South China Sea.
The region is now firmly in Cnooc's sights. In early April, the state-owned company completed China's first domestically constructed deepwater drilling development well, located in the eastern part of the South China Sea. Later that month, it joined with fellow Chinese NOC PetroChina to sign a contract to develop Beibu Gulf 23/29 and Beibu Gulf 24/11 blocks, both also in the South China Sea.
The moves revealed a renewed focus on developing the undisputed areas of that region. "No one has objected to the Cnooc deepwater well," says Bill Hayton, an associate fellow at Chatham House's Asia-Pacific programme. "However, there is always the possibility that, with the practice they are going to get on this one, the next one could be somewhere that is more disputed."
The Cnooc/PetroChina deal on the Beibu blocks could also suggest more cooperation between Chinese NOCs, in a bid to achieve national energy security. PetroChina is operator with a 70pc working interest.
"It is interesting to see PetroChina developing its offshore expertise in China, given it has traditionally only operated onshore. It is entirely feasible it would like greater future involvement in offshore China exploration, given the maturity of many onshore basins," says Huong Tra Ho, a senior analyst at consultancy Wood Mackenzie.
Cnooc is hoping to bring its first high-pressure, high-temperature offshore field, Dongfang 13-2—in the western part of the South China Sea—into production later in 2019 or early 2020, aiming for 2.6bn m3/yr of gas and 43,000bl/d of oil when it hits peak output.
In China's Pearl River Mouth basin, an influx of smaller IOCs, including South Korea's SK Innovation and Australia's Roc Oil, has reinvigorated interest in the shallow water liquids play. In 2018, Canadian independent Husky Energy made an oil discovery in the shelf from its first of a four-well exploration campaign in the basin. Wood Mackenzie expects the majority of future IOC exploration investment to target this play.
In Vietnam's Song Hong and Phu Khanh basin, Eni is planning a couple of exploration wells in 2019 and 2020 in blocks 114 and 122, with both chasing gas prospects. Offshore Malaysia and Indonesia's Sarawak basin, various companies are continuing with exploration and appraisal drilling to look for additional gas supply. Offshore deepwater Sabah, companies including Shell, ExxonMobil and Total are planning appraisal and exploration, potentially a couple of play-opening wells through 2020.
"Overall, as the industry is on the other side of the downturn, costs are reduced and companies can drill more wells for less, we see an increase in the level of drilling in the undisputed areas of the South China Sea this year and next," says Tra Ho.
That still leaves potential for conflict, despite China's offer of joint development programmes. "Vietnam started drilling wells last year, although that was abandoned after pressure from China. But once China starts drilling its own wells in the area, they too are going to face opposition from countries that share the area," says Prateek Pandey, an analyst at consultancy Rystad Energy.
More recently, Beijing has been applying discrete pressure on the Philippines, considered the most vulnerable of the South China Sea states because of its dependence on the declining Malampaya gas field, due to run dry by 2025.
In November 2018, China and the Philippines signed a memorandum of understanding to carry out joint oil and gas exploration and development in South China Sea waters, setting aside previous differences over sovereignty.
Under the deal, Cnooc will work with companies in the Philippines holding service contracts in the areas where the two countries want to conduct exploration.
"The Philippines' and China's joint MoU appears to be primarily a framework for future negotiations—in essence, a promise to keep talking and working on a compromise—but with no hard commitments," says Tra Ho. "The language being used by Philippines officials is vague and mirrors the reported draft agreement, which side-steps the thorny issue of sovereignty and practicalities. The devil is still in the detail."
Yet joint exploration is a distant prospect until Manila can establish the legal basis for such an arrangement, which will have to stand up to domestic judicial scrutiny. Even if joint exploration is successfully initiated—a major if, notes Tra Ho—joint development is a different matter and would raise a host of other legal and political questions.
The MoU may still be politically significant, in revealing Manila's readiness to cut a deal. "It stands as a win for Beijing in particular, which prefers bilateral negotiation over multilateral, and has successfully pushed its neighbour to prioritise exploration within its own exclusive economic zone (EEZ) on China's terms," says Tra Ho.
China has successfully deployed hard power against the Philippines in the past, for example in warning it off from developing the Reed Bank natural gas field. Now Cnooc is set to profit from a joint venture with the Philippines' Phoenix Petroleum, which is to build the 2.2mn-t/yr Tanglawan LNG terminal—explicitly a substitute for tapping the Reed Bank gas reserves.
Although a blow for the Philippines' ambitions to tap its own resources, there may be political advantage for its president Rodrigo Duterte in aligning with China. Analysts say it may help increase his "bidding price" in the regional battle for influence between China and Japan. "The more they look like they might fall into the Chinese camp, the more Japan might try to woo them back. They are playing one side off against the other," says Chatham House's Hayton.
Vietnam is another country facing Chinese pressure in the South China Sea. ExxonMobil is planning to sanction the Blue Whale gas development by 2020, but, although the project falls within Vietnam's EEZ, China lays claims to the same rights to the block via the Nine-dash line—the definition of which includes areas different from the UN Convention on the Law of the Sea, and claims to overlap with virtually every other country in the region.
"China is worried that if ExxonMobil starts drilling and developing fields, that might deplete the basin in future and they might lose some reserves from their own region," says Pandey.
Vietnam has felt heat from China in the past. Beijing's opposition to the Red Emperor project, backed by Spain's Repsol and the UAE's Mubadala Petroleum, on Vietnam's south-east coast ultimately forced the partners to suspend activity in March 2018, leaving a $200mn investment that is now the subject to a compensation claim.
For the time being, most Southeast Asian countries are ready to uphold their maritime rights in the face of China's blandishments. Yet, for some, dealing with China on the latter's terms could become a fait accompli.
The alternative—reaching out to the US by invoking mutual defence treaties, heralding the entry of US military vessels to protect oil and gas infrastructure—would heighten regional tensions, while offering no cast-iron guarantee of being able to develop disputed hydrocarbon reserves. In these circumstances, dealing with the devil they know might prove a more durable long-term solution than seeking Washington's protection.