The Shell Game: Is China's Smog Problem the Hidden Ball?

Shell’s recent announcement of its intent to purchase BG Group for $69.6 billion dollars resounded through the oil and gas press. Initially there was a round of excitement that the deal marked the beginning of the M&A cycle that everyone is expecting from the current oil-price situation. But even if there is a slight discount in the value of BG due to the price of oil (and the fact that a large part of the BG oil reserves are in scandal-ridden Brazil), there is obviously something deeper at work here.

So what is it that Shell sees in BG, and why now?

Shell + BG = LNG powerhouse

The acquisition of BG will add around 25% to Shell’s proved oil and gas reserves and 20% to Shell’s total production. BG has assets in 24 countries including UK, Norway, Kazakhstan, Canada, USA, Brazil, Egypt, Tanzania, Thailand and Australia. Much of this placement is situated very well for the Chinese market.

Shell has long been an advocate of Liquefied Natural Gas (LNG), and BG Group claim that by 2017, they “will be the largest contracted supplier to China, the world’s fastest-growing LNG market.”

In addition to BG Groups vast global network of hydrocarbon assets and exploration expertise, the deal includes BG’s 50% operating interest with China National Offshore Oil Corporation (CNOOC) for the Queensland Curtis LNG (QCLNG) project in Australia, which will be the world’s first project to turn gas from coal seams into LNG.

All the Smog in China

China has a terrible problem with air quality due to their incredibly rapid expansion and reliance on coal as a fuel source. They have even recently surpassed the United States as the largest contributor to greenhouse gasses.

Future energy demand from China is hard to get a handle on, but we do know that a lot of their growth has been driven by new housing starts, and the resulting mining and manufacturing to support that industry. Recent reports show housing starts are down 18% and iron ore is down 60%.

Recently China has been making a tremendous effort to turn away from coal to natural gas as a cleaner burning/less environmentally hostile fuel source, and has taken advantage of the current cheap prices and slowdown in their own expansion to accelerate that transition.

China Gas Activity

China recently made a deal with Russian giant Gazprom for a new natural gas pipeline, which of course has the advantage of being overland.

According to our most recent DI International Scout Report for NE Asia, oil and gas activity is ongoing in China, with recent encouraging shale gas exploration in the Longmaxi, Shaximiao, and Xujiahe formations of the Sichuan Basin.

And India is Under Pressure to Update its Energy Plans

As if China wasn’t enough of a market to prompt Shell to shore up its global natural gas resources and initiatives, Indian Prime Minister Modi has made very clear his intention to upgrade India’s infrastructure for cleaner air, mostly to offset the devastating health consequences of their pollution problems.

Good for the USA

Because this move appears to presage a strong move to natural gas in the Asian markets, this is good news for the USA. Cheniere and other LNG advocates are well along the road to making the USA’s recently abundant natural gas more available to the world market. Cheniere plans to have the US’s first LNG export plant (at Sabine Pass in Louisiana) online by the end of the year (and another soon after in Corpus Christi). This is of course great news for the Eagle Ford, and even the Haynesville, Barnet and Fayetteville plays. Other LNG export terminal projects are underway on the east coast, with quicker access to the Appalachian natural gas sources.

Conclusion

Despite the current focus on the price of oil as the big news story, the clean energy needs of the globally emerging middle class indicate long term growth for the cleanest burning of hydrocarbons, natural gas.