Successful investors can predict where the market is going years before the rest of us. Like the clichés of selling ice to Eskimos (or the British version of selling coal to Newcastle), Richmond, Virginia-based Coal Baron E. Morgan Massey was five years ahead of the markets when he raised $75 million to develop coal mines in China's Shanxi province in 2001.
As early as 1994, the seventies-something founder and chairman of A.T. Massey Coal, which has since evolved into Massey Energy (MEE), began planning to bring American-invented Longwall mining technology to China's coal mines in Shanxi province. With his Chinese partners, Massey and Asian American Coal control about two billion tons of coal reserves.
It is Massey's spin off coalbed methane (CBM) company Asian American Gas, which caught our eye. According to Shanxi News, the CBM output of a pilot well set a new national record, continuously producing 40,000 SCM per day (standard cubic meters). The new technology which created the new national record is something called "Multi-Lateral Drilling (MLD)."
Asian American Gas Chief Executive Zou Xiang Dong claimed the MLD technology helped the methane gas output for his wells on his company's Panzhuang CBM block in Shanxi province jump by more than 40 times that of conventional vertical wells. Obviously the company is excited as four other MLD wells installed in the latter half of 2006. The company believes those wells might also have the potential to match the record production.The previous daily output record stood at 16,000 cubic meters.
China Celebrates Coalbed Methane
An inside look at China's rapidly blossoming CBM industry is nothing if not electrifying. The world's energy entrepreneurs have been rushing to China to take up the country's state-owned methane gas company - China United Coalbed Methane Co (CUCBM) - on production-sharing contracts offered to foreign energy companies. Since its inception, CUCBM has signed 27 production-sharing contracts with CBM developers from the United States, Canada, Britain and Australia.
The largest publicly traded company, and among the first to participate, was Chevron Corp (CVX). But smaller firms have also joined in the hunt to develop China's vast natural gas reserves. Far East Energy (FEEC) and Pacific Asia China Energy (PCEEF), have been awarded massive land concessions - on the order of the size of the state of Delaware. Many of these are home to rich coalbed methane reserves with thick, multi-level coal beds with high methane content. For example, U.S.-based Orion Energy was awarded a production-sharing contract on more than 460 square kilometers in the Sanjiao region of coal-rich Shanxi province. Volume is estimated at 60 billion cubic meters.
Typically, the foreign company assumes all the operational risk to verify the quantity of coalbed methane gas. Costs from exploration through to commercial production are borne by the foreign company. Pacific Asia China Energy vice president of exploration Dr. Marchioni told us that the positive side of this arrangement is that CUCBM would provide all of the coal exploration work, which he called quite satisfactory, and that his company's main work was to confirm the Chinese coal exploration. In a previous article we discovered that the gas content both Far East Energy and Pacific Asia China Energy confirmed, during their drilling programs, compared well against the top coalbed methane producing regions in the U.S. and Canada.
The Chinese are not giving away their CBM reserves without taxation. The Chinese-foreign joint ventures are subject to five-percent value-added tax when they begin to exploit the coalbed methane gas. However, for the first two years such joint ventures show a profit, the companies will be exempt from the business income tax. For the third through fifth year, the tax rate will be cut by half. In order to encourage new technology, such as the Multi-Lateral Drilling Technology or Mitchell Drilling Services' Dymaxion® drill rigs, the imported materials used for prospecting and development work are exempt from customs duties and the import regulation tax.
According to Yang Jian, an executive at China United Coalbed Methane, "The state encourages the development of this new energy, and there's no restriction on foreign companies entering this field. With the good prospects, the expanded production of coalbed methane can be expected to happen soon." Foreign companies have spent about $160 million exploring the concessions they were awarded. Yang pointed out that large Chinese companies, such as China National Petroleum Corp, were now entering CBM exploration. Shanxi province's Eleventh 5-Year Plan is forecast to exceed $15 billion for CBM exploration, development and utilization.
China's Killer Coal Gas Fuels Taxi Cabs
Holding the world's record for coal mining deaths annually, the Chinese have looked upon coal gas as a dangerous nuisance. During coal mining, methane gas can cause explosions resulting in death and injury to the miners. China United Coalbed Methane Corp general manager Sun Maoyuan pointed out, "About 80 percent of casualties are attributed to these gas explosions, causing direct losses of $93 million each year."
By extracting the gas - simply de-gasifying the coal mine before producing from it, deaths can be avoided and China can help power its economy with a 'new' energy source. One Chinese newspaper beat the drum for coal gas, writing, "As a 'green' energy source of good quality and high efficiency, coalbed methane has a promising future."
Fuxin City in China's Liaoning province is China's first city to replace coal-made-gas with CBM. Coalbed methane now supplies more than 80,000 households and 1,000 taxis. Twenty-three year-old taxi driver Li Gang is happy about using compressed coal-bed methane in his cab. "I can save on half of my expenses for fuel each day," he told Xinhua news service. One cubic meter of compressed CBM is the equivalent of 1.13 liters of gasoline, but retails for less than one-half the price of gasoline.
Starting in January, Jincheng City refitted about 90 percent of the city's 1300 taxis to use both compressed CBM and gasoline. At China's largest CBM exploitation base, Quinshui Basin, wells are operating at full capacity to help fuel factories, households and most importantly the city's growing dependency on automobiles.
China hosts more than 30 trillion cubic meters of CBM reserves, according to the China Coal Information Research Institute, and ranks behind Russia and Canada for the world's largest reserves. This much CBM is tantamount of 45 billion tons of standard coal. Some sixty percent of the methane gas is stored in coal beds below 1500 meters, which can easily be developed.
In 2004, China's coal mines polluted the atmosphere by pumping out 14 billion cubic meters of coal gas. By accelerating coal mine development in China, the emissions problem will worsen. Some experts estimate more than 17 billion cubic meters will be released by 2020. Because of the global shortage of energy sources, the Chinese are now turning to CBM as a reliable substitute for conventional natural gas.
Following the extraordinary publicity about deaths from methane gas explosions in China's coal mines, China's State Council, introduced measures in 2005, to harness gas by developing CBM projects and de-gasifying mines. To intensify CBM exploitation, the State Council issued a 16-clause guideline, this past June, offering a number of preferential policies on land use and access of methane-generated electricity to local power grids. Because of the urgency to get CBM in broader use, two months later, the National Development and Reform Commission began measures to put the guidelines into practice.
New CBM Drilling Technologies Move China Forward
In the mid 1990s, China began exploring some of its vast CBM reserves. Inadequate investment and technology led to the formation of CUCBM. The state-owned CBM company began attracting foreign partners to invest in developing China's CBM reserves and to bring with them new drilling technologies.
In 2005, China consumed 1 billion cubic meters of coalbed methane gas and was expected to use 1.4 billion cubic meters this past year. To date, more than 600 CBM wells have been sunk across China. Most remain in the exploration and pilot stages. New technologies brought to China through joint ventures with CUCBM could help accelerate development and dramatically increase the number of CBM wells
As we mentioned earlier, new CBM drilling technologies have arrived in China to advance many CBM projects more efficiently into production. With an eye to reduce cost and maximize efficiency, drilling technologies from the U.S. and Australia are being brought to China to expedite the emerging CBM sector.
Multi-Lateral Drilling Technology (MLT) offers solutions to tough economic climates and rough operating conditions. MLT has been used to recover 'heavy oil' deposits, such as those found in Canada or Venezuela. This technology has also found its way to the hostile North Sea to increase recoverable reserves from those oil fields.
Partly to reduce well construction costs, another advantage is to add incremental reserves and production rates to a project. Uneconomic projects could suddenly be made to work. When we spoke to Nathan Mitchell of Mitchell Drilling (Brisbane, Australia), he told us many previously sub-economic projects could become profitable by using his Dymaxion® drilling technology. Mitchell told us CBM extraction could drop to as low as $1.10/mcf, whereas others were struggling to extract for more than three or four times the cost.
Mitchell was quite excited to import his drilling technology to China through the company's joint venture with Pacific Asia China Energy. The joint venture would have an exclusive to utilize the Dymaxion® technology in China for all CBM drilling and coal mine de-gasification projects. At a coal symposium in Guizhou province this past spring, Mitchell spoke of the numerous coal companies which expressed a high level of interest in his company's drilling technology. From what we understand, the first such drill rig should shortly arrive in China.
Most MLT has been used for oil exploration projects. Noted, however, is that MTL may significantly impact reservoir spacing in deep, tight gas wells by helping to achieve optimal drainage spacing, which is impeded when drilling to deep reservoirs. By contrast, Mitchell has drilled more than 250 CBM wells in Australia and had moved forward with CBM drilling in India. This is the company's first entry to China, where rugged terrain could test the efficiency of his system.
CBM Timing Coincident with China's Red Hot Stock Market
China's Shanghai stock exchange is now among the world's best performing bourses. The Shanghai Composite Index now approaches 3,000, having hit a record high last week. Millions of Chinese have exited the frothy real estate market to trade stocks - more than triple the number of investment accounts were opened last year compared to 2005.
In July, commodities guru and best-selling author Jim Rogers told StockInterview he had cashed out of every other emerging market in the world and had invested heavily in China. China's financial markets collapsed two years ago and have now returned with a vengeance. Remember 1999? That's China today. According to the New York Times, one mutual fund raised $5 billion in a single day and some mutual fund managers are annually making more than $600,000 - in China!
What's that have to do with CBM? At some point, and we have already heard of interest of such, Chinese investors could very well flock into the CBM companies we've written about. There is an irrational exuberance vibrating across China's financial markets. But, this is also a country now attracting foreign investment. Asian Development Bank has injected $117 million into CBM development projects, Japanese banks have invested $20 million and National Investment Company of China has announced it would invest more than $300 million over the next seven years.
As more foreign capital comes to China for CBM projects, a scarcity of the best CBM projects could come about. As we have noted in previous articles, China's race for energy security has become a global challenge for its economic growth. We expect many of the local industries and prefecture level cities could plan to deal directly with the Chinese-foreign joint ventures in securing their own gas supplies by direct investment in the foreign-owned companies. By partnering with the foreign-owned, publicly traded companies, their communities would ensure a reliable energy source.
Nearly half of China's coal mines are rich in gas, but CBM remains undeveloped and still in its infancy in the world's largest coal market. Last May, China's National Development and Reform Commission approved a five-year plan to exploit coalbed methane. They plan to dramatically boost CBM output to 10 billion cubic meters by 2010.
In the back of our minds, we wonder what would happen should the aggressive Chinese investment community rush into CBM in the same way many North Americans and Australians have embraced the shares of uranium mining companies.
COPYRIGHT © 2007 by StockInterview, Inc. ALL RIGHTS RESERVED
About the Author
James Finch contributes to StockInterview.com and other publications. His focus on the uranium mining and nuclear fuel sector resulted in the widely popular "Investing in the Great Uranium Bull Market," which is now available on http://www.stockinterview.com and on http://www.amazon.com
