Despite Global Glut, China Doubles Down on Natural Gas

A global natural-gas glut has slowed the U.S. shale boom, but in this Yangtze River town, a Chinese one is just starting.

China’s state-owned energy companies, their profits decimated by the commodities bust, are pushing ahead with billions of dollars in new investment to extract gas from shale. Leading the charge is China Petroleum & Chemical Corp. , or Sinopec, which aims to double domestic gas production within five years.

Sinopec’s push now, amid a global oversupply of gas, presents a curveball for an industry already in turmoil. If it succeeds, China’s need for imported liquefied natural gas may dwindle—potentially jeopardizing tens of billions of dollars in planned investment from Canada to Papua New Guinea.

China has huge shale reserves, but challenges from complicated geology to an inadequate pipeline network long made tapping them elusive. But with stifling pollution in many cities, natural gas offers a cleaner alternative to coal. Developing this industry will also help protect jobs at home.

Much of the planned Chinese expansion will come from the Appalachia-like region near Fuling, in central China, where tobacco plots are nestled among rolling hills, and where underground rock formations hold some of the biggest reserves of shale gas outside North America.

Sinopec’s investment is transforming a region caught between China’s past and its future. Farmers in sandals plod along winding country roads, woven baskets hitched to their backs. In Jiaoshi, Sinopec’s local base, workers in red jumpsuits clutch iPhones along the town’s main street, named after a Sinopec oil field.

In taking on this challenge, Sinopec is betting that the country’s future appetite for natural gas will strengthen. Consumption grew 3.3.% last year, down from recent double digits.

“The space for this market is still rather huge,” said Hu Degao, general manager of Sinopec’s Fuling unit, run partly from makeshift offices resembling shipping containers.

Gas production will top 5 billion cubic meters this year, up from 3 billion in 2015. By 2017, it aims to raise Fuling production capacity to 7 billion.

Its shale push is helped along by government subsidies and political support—meaning there is less environmental debate around shale-gas production than in the U.S.

Some industry experts see Sinopec’s gambit as a bid to balance out faltering production from aging oil fields. Sinopec crude output plunged 11.4% in the first half versus 2015. Meanwhile weak demand from China helped Asian spot prices for liquefied natural gas tumble 70% from 2014 highs, according to S&P Global Platts.

“By growing gas production they are effectively trying to mitigate what’s happening on the oil side of the business,” said Neil Beveridge, an analyst at Bernstein Research in Hong Kong. Developing shale “looks like more of a volume strategy than a value strategy.”

The company once chiefly served as an oil refiner, but has shifted more to oil and gas production to grow profit. Sinopec touts natural gas as key to its future as its aging oil fields become more expensive to pump.

While Sinopec says gas demand has been slower than the company once forecast, executives expect that to change as the central government pushes China toward cleaner energy sources.

Whether Sinopec can hit its production goal is another question. The company says gas production rose 10% in the first half from a year earlier. It will need significantly higher output the rest of the year to hit a growth target of about 18%.

Sinopec acknowledges costs and other challenges in Fuling, and says it is working to overcome them. To help curry favor, it gave a 1% stake in its Fuling unit to a local government investment firm. That gives local officials an incentive to help Sinopec succeed.

It’s tough to gauge how locals view Fuling’s shale fever. Local officials blocked a Wall Street Journal reporter from interviewing villagers near Jiaoshi. Township officials said independent interviews weren’t allowed.

Sinopec’s success partly depends on how well Mr. Hu, the Fuling subsidiary’s general manager, does his job.

Over the past few years, Mr. Hu says Sinopec made progress in replicating the U.S. boom. The company is learning much about the local geology, which can be more complicated than in the U.S. Equipment that was once imported is now made more cheaply by domestic suppliers, Sinopec says.

Mr. Hu says the cost to drill one well has fallen from 90 million yuan a couple of years ago to around 70 million yuan. He’s also looking to cut costs further.

A 30-year oil-patch veteran, Mr. Hu relishes hourlong evening walks in the countryside near the Jiaoshi base after work. He said shale is critical to making energy in China cleaner.

“The environment here needs the development of natural gas,” he said.

WSJ