On July 7 2015 the Ministry of Land and Resources announced that public bidding has been launched for the exploration rights to six oil and gas blocks in Xinjiang, marking the prelude to oil and gas mineral rights reform in China. Since then, around 50 companies have applied for bidding materials in preparation for the bid. According to the schedule, bids are expected to be submitted and simultaneously opened on the spot on October 20 2015. The results of the public bidding are yet to be seen; however, the ministry views this as the beginning of efforts to experiment with upstream reform of mineral rights in the oil and gas sector.

Background

Although Chinese laws and regulations do not exclude Chinese private companies or foreign-invested companies from participation in the exploration and development of oil and gas in China, for decades the upstream oil and gas sector has been monopolised by four state-owned oil companies – CNPC, Sinopec, CNOOC and Shanxi Yanchang Petroleum – due to the government's strict control.(1) This administrative monopoly has given rise to inefficiency in resource allocation and loss of social welfare, which is generally considered a severe restriction on the quality and efficiency of oil and gas exploration and development and an obstacle to any substantial progress in upstream reform of mineral rights in oil and gas sector. In recent years, the midstream and downstream oil and gas sectors (eg, pipelines, transportation and sale) and the upstream sector for unconventional petroleum resources (eg, shale gas and coalbed methane) have gradually been opened up to private entities. However, exploration and development of oil and gas blocks are still monopolised by state-owned oil companies.

The upstream oil and gas sector is a high-risk and high-reward industry which involves large-scale investment, complex technology and long investment periods. After decades of exploration and development, the resource grade and success rate of exploration in many oil and gas blocks have decreased, so there is urgent demand for funds and technology for further development. Take Xinjiang, for example: by the end of 2014, its proven reserves were 5.6 billion tons of oil and 1.4 trillion cubic metres of natural gas – ranking number one in China(2) – but its investment risk is relatively high due to the depth of underground resources and poor infrastructure conditions. Therefore, the reform of mineral rights to oil and gas blocks in Xinjiang is intended to, on one hand, facilitate exploitation of potential oil and gas resources in the province and, on the other, experiment with oil and gas reform in China.

Highlights of bidding notice

The following highlights can be gleaned from the public bidding notice:

  • Blocks for bidding – six blocks are available for exploration, including undeveloped blocks and blocks previously relinquished by CNPC or Sinopec.(3)
  • Eligible bidders – bidders must be domestic companies registered in mainland China with at least Rmb1 billion (approximately $157 million) in net assets, the ultimate controlling shareholder or actual controller of which must be a domestic entity. Joint bidding by consortiums is not allowed.
  • Successful bid – the company which commits the largest amount of expenditure to exploration will win the bid. If multiple companies make the same expenditure commitment, the company registered in Xinjiang will prevail. The winning bidder must submit a performance guarantee equal to 10% of its committed expenditure for exploration before obtaining the exploration licence.
  • Validity period and transfer of exploration licence – the exploration licence will be valid for three years and three months (three years for exploration followed by three months for assessment of the expenditure spent on exploration). The licence cannot be transferred within the first three years. In the event of failure to meet the committed expenditure for exploration, the letter of guarantee for performance will be enforced and the block area will be relinquished pro rata.
  • Development – when entering into the development period, the winning bidder must establish an enterprise in Xinjiang for the development of the project.

Impact of public bidding on Xinjiang

As an experiment for reform, the public bidding is intended to explore ways to provide a more competitive mechanism for the granting of oil and gas mineral rights. The Ministry of Land and Resources hopes that this experiment will stimulate the vitality of the oil and gas industry in China and optimise the market-oriented allocation of resources. As a next step, the ministry plans to apply lessons learnt from the Xinjiang experiment throughout the country and prepare for further systematic reform of the oil and gas industry.

Comment

Although the public bidding experiment in Xinjiang is an important step in oil and gas mineral rights reform in China, certain issues still require attention. For example, the eligibility requirements for potential bidders are stricter than expected. It has been recommended that foreign-invested enterprises and companies with 'round-trip' investment conducted by domestic entities should be included as qualified bidders. However, unfortunately, the final bidding documents expressly exclude these entities from participating in the bidding procedures, reflecting a conservative attitude towards the reform. Given that the government has allowed foreign investors to participate in upstream exploration of unconventional oil and gas – including shale gas and coalbed methane – restrictions on foreign investment and round-trip investment in the upstream conventional oil and gas sector should gradually be lifted in future.

Another criticism is that private enterprises are likely reluctant to bid for the exploration rights, fuelled by unoptimistic expectations. Some private enterprises hold the view that these blocks are located in areas with complex geological conditions and poor infrastructure, which may greatly increase the costs and risks incurred in exploration and further development.

In addition to the public bidding for oil and gas blocks, another part of the oil and gas reform experiment in Xinjiang is the so-called 'mixed ownership' reform,(4) which principally promotes cooperation between Xinjiang local enterprises and state-owned oil companies such as CNPC and SINOPEC. The mixed ownership reform is more welcomed by local government – since July 2015, CNPC and SINOPEC have founded joint ventures with the Xinjiang State-Owned Assets Supervision and Administration Commission in order to participate in oil and gas exploration and development. One probable explanation for the disparity between these two areas of reform is that the local government is willing to embrace mixed ownership since joint ventures may bring in more tax revenue. Nevertheless, the significance of the public bidding experiment in Xinjiang cannot be underestimated. This marks the beginning of a series of reform measures which will soon be adopted in the Chinese oil and gas sector.

For further information on this topic please contact Libin Zhang or Fengyan Chen at Broad & Bright by telephone (+86 10 8513 1818) or email (libin_zhang@broadbright.com or fengyan_chen@broadbright.com). The Broad & Bright website can be accessed at www.broadbright.com.

Endnotes

(1) According to the Administrative Measures on Registration of Blocks for Exploration of Mineral Resources and the Administrative Measures for Registration of the Mining of Mineral Resources, when applying for an exploration or mining licence for oil and gas resources in China, the applicant must submit to the Ministry of Land and Resources documents issued by the State Council which authorise the establishment of the oil company or which approve the exploration or mining activities, as well as the applicant's legal person qualification certificate.

(2) See the Annual Report of Energy in Xinjiang (2014), published by Xinjiang Uygur Autonomous Region Development and Reform Commission.

(3) According to the Administrative Measures on Registration of Blocks for Exploration of Mineral Resources, if the holder of an exploration licence fails to meet the minimum exploration expenditure requirement, the Ministry of Land and Resources or its branch may:

  • order it to rectify the situation within a prescribed time limit;
  • impose a fine of up to Rmb50,000 if the holder fails to rectify the situation within the aforesaid time limit; or
  • revoke the exploration licence in serious cases.

(4) The 'mixed ownership economy', a system in which the state, collective and private sector coexist in the economy, was first introduced in the fourth plenary session of the 15th Central Committee of the Communist Party of China on October 12 1992. This concept was further mentioned and promoted in the 16th and 18th Central Committee of the Communist Party of China (respectively held on November 14 2002 and November 8 2012).

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