Chinese oil giant Sinopec Corp (0386.HK)(600028.SS) is for the first time pumping shale gas from test wells in commercial quantities in what it hopes will be a breakthrough in the development of a badly needed new energy source.

Stymied by the cost of drilling and complexity of tapping shale gas, China has struggled in its bid to revolutionize its energy supplies and unlock what may be the world's largest shale gas reserves by emulating the frenetic exploration and production of the U.S. shale boom.

But the state-owned firm's Sinopec Jianghan unit has more than doubled its 2015 output target for the key shale area of Fuling in the country's southwest after successful pilot drilling, hoping to cut costs through measures such as drilling numerous wells at once and recycling fracking liquids.

That is good news for Beijing, where calls to exploit shale have taken on greater urgency due to a domestic shortage of gas supplies and longer term plans to prioritize gas-fired energy production as part of a battle to clear China's notoriously polluted skies.

"The high yield in the Fuling area proves more evidence that the Sichuan basin is promising in terms of shale gas development and lays the foundation for commercial production in the area," said a Sinopec Jianghan official with direct knowledge of the Fuling drilling, adding that another 50 or so wells are planned for commercial development in 2014. He declined to be named as he is not authorized to speak with media.

Sinopec has drilled nearly 30 pilot shale gas wells in the Fuling area of Chongqing municipality in southwest China, part of the Sichuan basin - one of the most promising geological zones for the unconventional fuel.

Six of the wells are pumping a daily combined rate of 1.06 million cubic meters of gas, according to state media and the Sinopec official, or an average of nearly 180,000 cubic meters per well.

They are among the most prolific of the total of around 150 wells Chinese companies have sunk over the past three years in pilot explorations. That has led the operator to target an annual production capacity to be built at the field of 5 billion cubic meters (bcm) by the end of 2015, the source said.

That would dwarf company estimates reported by local media in July of around 2 bcm for the whole of Sinopec's shale output by 2015, and would be 100 times greater than China's estimated output last year of just over 50 million cubic meters from all test drilling at shale formations.

DRILL DOWN

Slow development of China's enormous shale gas reserves had cast into doubt even a modest 2015 output target of 6.5 bcm, but the development of Fuling should make this goal far more likely.

A Sinopec Corp spokesperson said the company was evaluating the Fuling reserves and expected to come to a conclusion on possible commercial development around year-end.

To reach and sustain output of 5 bcm a year, Sinopec would need to drill around 170 wells, each pumping 100,000 cubic meters daily.

Of the six Fuling wells that are recording steady test flows, one has daily production as high as 547,000 cubic meters, according to the Sinopec official and a report earlier this month by the official Xinhua news agency.

With limited participation from established global service companies such as Baker Hughes (BHI.N) and Schlumberger (SLB.N), Sinopec's Jianghan team has improved in key areas such as fracturing and logging - the process of making detailed records of geological formations.

At one well, Sinopec Jianghan executed a 22-stage fracturing process at a depth of 1,500-metre - a challenging task for a company with limited experience of such a complex procedure.

Key for commercial production is whether companies can locate high-yielding shale formations and then drive down costs. Sinopec's Jianghan unit aims to halve drilling costs from a hefty 80-100 million yuan per well ($13-16.6 million) currently, said the official and the Xinhua report.

Shortening each well's drilling period from the current average of 70-75 days by drilling a few wells at the same time is one of the most effective ways of achieving this due to economies of scale, said industry officials. Cost savings will also come from multi-directional horizontal drilling and recycling fracking fluids, officials said.

And the Fuling development looks set to help Sinopec take the lead in Chinese shale gas, overtaking China's top energy firm PetroChina (0857.HK).

"Compared with PetroChina, Sinopec is weaker in (broad) upstream development. It's keen for a breakthrough." said a government official involved in shale gas planning.

PetroChina is China's leading gas producer and has carried out some successful pilot drilling in the Weiyuan area of the Sichuan basin, but has announced a modest target of 2 bcm of shale gas production by 2015 as it continues to focus on other oil and gas projects. ($1 = 6.093 Chinese Yuan)