Big Oil Can Say “No” To China

Yesterday, Shell and Unocal announced that they were pulling out of a project to explore and develop a natural gas project in the Xihu trough in China “for commercial reasons.” In isolation this is not a small matter. However, coming as it does one month after a consortium led by Shell pulled out of China’s critical West to East pipeline project, the announcement suggests that the rules of the game are beginning to change in China.

No More Business As Usual

Far too many companies come to China convinced that they must be here – and be seen to be a player in China – at any cost. Implicit in this approach is the deep faith that somehow at some time in the future the investment required to be a player will pay off (what author Joe Studwell calls The China Dream), and that failure to be a player in China will relegate one’s company to a second- or third-tier status globally in one’s industry (what should thus be termed “The China Nightmare.”)

The corporate casualties – in destroyed careers, wasted money, and deeply damaged companies – that came from this misguided thinking is such a matter of public record as to stretch credulity and to call into question the competence of the legion of otherwise very smart executives who have ignored it. And yet, in so many industries – autos, real estate, steel, beer, telecommunications, and an untold host of others – continue to behave as if business logic is suspended at the border and that in China it is sufficient “just to be here.”

So you will forgive me for hoping that the Shell and Unocal announcements are the beginning of a trend.

Something tells me that they do. The statement that they are bailing on the deal for “commercial reasons,” despite the considerable investments that both Shell and Unocal have made in reaching this point, are a clear signal to the folks on the other side of the table that the deal had better make sense, and that the days of paying just to be here are over.

Uh-oh. Now What?

Before we all get comfortable with the “self-high-fives,” there is a serious downside to consider here for China. Sinopec and CNOOC (Sea-nook), the two Chinese partners in the project who were (by third-party accounts) making the commercial terms for Xihu so unpalatable, are now left having to go it alone. Likewise Sinopec is left holding the bag for the West-to-East natural gas pipeline project.

This comes at a very bad time for China, and for the world. China’s growth is starting to draw in energy resources from around the globe at a rate that is exacerbating both perceived shortages and the increasing expense of bringing those resources to market. Given that China is still fairly early in its curve of energy usage per-capita, that demand will continue to grow. The country is trying to wean itself off of its huge dependence on coal (the country burns nearly a ton of coal per person per year) and imports of petroleum, and natural gas would help meet the growing demand coming from industry and housing.

In short, anything that slows China’s move toward dependence on cleaner fuels will simply increase the damage to its environment, and anything that raises China’s dependence on energy imports will drive inflation in China, will hurt the country’s competitiveness globally, and threatens an oil shock that will slow growth in many of China’s key markets.

Bleeding the Foreigners Doesn’t Look So Clever Anymore, Does It?

This is by no means a condemnation of Shell and Unocal – they did what they had to do, and they should be applauded for making smart decisions. Rather, this should be a warning to China – unless the government and industry in China suppress the desire to sop every possible penny from the foreigners, they will lose critical opportunities for genuine partnerships that will not only speed development, but will also avoid some unpleasant issues along the way.