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Chinese state companies struggle as energy price deregulations lag

By Song Yen Ling in Singapore

September 5, 2012 - Twenty-twelve was supposed to be a watershed year for China to roll out energy pricing reforms but policy changes have moved at a glacial pace, continuing to negatively impact state oil companies' balance sheets in the first half.

Sinopec, PetroChina and China National Offshore Oil Corp. all reported their interim results late last month, with the latter hit by poor upstream performance while its larger rivals incurred losses in refining.

Last year the central government had indicated it would move to accelerate deregulation of energy prices in the economy to allow supply -- particularly higher priced imported resources -- to keep up with booming domestic demand.

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Sinopec and PetroChina -- which have a combined installed distillation capacity of over 8 million b/d -- have been suffering negative refining margins since last year because price changes were infrequent and lagged movements in international crude prices.

For the last two years Beijing has been mulling a change to its existing oil product pricing mechanism to make it more responsive to crude oil price fluctuations. The new measures reportedly include reducing the review period from 22 working days currently to 10 days, as well as changing the crude benchmarks used.

The economy has become a priority on policymakers' agenda and authorities are not likely to make major domestic policy changes before the decennial leadership handover scheduled at the end of the year.

What the National Development and Reform Commission -- the ministry in charge of economic planning -- has managed to do so far this year is adhere closer to the current pricing system and making more frequent adjustments.

It raised retail oil product prices in February and March and subsequently cut prices three times from May to July in line with falling international crude oil prices.

The last price hike in gasoline and gasoil on August 9 now put pump prices at about $1.27/liter for RON 95 gasoline and $1.19/liter for diesel in Beijing. While this is higher than prices in the US, they still lag pump prices in Singapore by at least a third.

Refining, natural gas segments impacted

Sinopec’s first half net profit fell 40.5% year on year to Yuan 24.5 billion ($3.9 billion) on continued refining losses and poor performance in chemicals, the company said August 26.

Its operating loss in the refining segment widened 52% year on year to Yuan 18.5 billion, with average crude procurement costs rising 9.9% year on year to Yuan 5,412/mt.

By enhancing efficiency, it managed to lower its refining loss below expectations. It said it would control crude costs and has switched from Indonesian Duri to cheaper Dubai as its crude benchmark when calculating margins.

PetroChina's refining segment saw a loss of Yuan 23.3 billion in the first half, roughly unchanged from the same time last year.

It reported total net profit of Yuan 62 billion, down 6% on year, despite revenue rising 10% to yuan 1.05 trillion.

However it got hit significantly by a Yuan 12.5 billion loss from importing natural gas and LNG, which totaled 12.8 Bcm in the first half. Like gasoline and gasoil, natural gas prices in China are controlled by the government and plans to raise prices or introduce a new pricing system have yet materialized. (see chart: China's NOC's H1 Net Profit )

While analysts believe the central government will implement more loosening measures to prop up economic growth, they are less optimistic about pricing reforms.

PetroChina Chairman Zhou Jiping said that its performance going forward would hinge heavily on pricing form for oil and gas but conceded that the government would likely introduce this when the time was appropriate. With the confluence of weak economy both globally and at home, "we did not gather confidence from their comments that we were approaching an appropriate time", said HSBC equity analysts.

"We expect [refining] margin pressures to worsen through Q3 and into Q4 as the delayed effect of rising crude feedstock prices slowly comes to bear and the government fails to pass such increases on to end-consumers," said Macquarie Equities Research.

"Sinopec has suffered as both refining losses and weak petrochemical margins have stalled earnings growth. While Q3 looks to be similarly challenging, the best hope for Sinopec is the restart of a fiscal stimulus, which helps boost petrochemical demand," said analysts Neil Beveridge, Ying Lou and Lu Wang at Bernstein Research.

Earnings at both companies were buoyed by robust upstream earnings which rose on higher commodity prices and increased output.

PetroChina's operating profit in exploration and production rose 9.7% year on year to Yuan 113.8 billion on higher oil and gas prices and increased output.

Its total oil and gas output rose 3.8% year on year to 667.9 million barrels of oil equivalent (3.67 million boe/d). Crude production reached 452.4 million barrels (2.5 million b/d), up 1.5% year on year, while gas production was up 9% to 1.29 trillion cubic feet (7.1 Bcf/d).

The company said it would continue to develop unconventional gas resources, with Zhou saying it will spend Yuan 10 billion on tight gas, coalbed methane and shale gas.

Sinopec's upstream division posted a 16.8% year on year rise in operating profit to Yuan 40.5 billion, with crude output up 4.3% to 163.1 million barrels (901,000 b/d) and gas production up 14.1% to 289.8 Bcf (1.6 Bcf/d). (see chart: China's NOC's H1 China's NOC's H1 Total Output )

Next page: CNOOC - a different story

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