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CEO AT A GLANCE

P/E ► 9.66 LOW EV/EBITDA ► 6.75 AVG ROA ► 24% VERY HIGH ROE ► 31% HIGH Debt to Equity ► 0.290 VERY LOW Current Ratio ► 3.39 VERY HIGH Interest Coverage Ratio ► 111 VERY HIGH

 

 

 

 

 

 

CNOOC Limited, the largest offshore drilling company in China^[1], is majority-owned by China National Offshore Oil Corporation. The company is a member of the country's government-controlled oil oligopoly along with PetroChina (owned by China National Petroleum Corporation - CNPC) and Sinopec (officially, China Petroleum and Chemical Corporation). In 2008, oil prices have risen to record highs, and CNOOC has reaped the returns in two ways: 1) as oil prices rise, the company makes more money for producing the same amount, and 2) high oil prices give foreign oil companies, like the oil majors, the incentive to explore in China. CNOOC receives, at no cost, a 51% stake in ANY offshore project in which a foreign oil company is involved - a big advantage over its competitors, who do not have this right.^[2] This means that CNOOC can let foreigners shoulder the exploration costs and reap the production benefits.

CNOOC's future is intimately tied to China's future. Demand for oil in the emerging economy is colossal, at 7.9 million barrels per day, and in 2007 the country produced less than half that.^[3] Furthermore, the government is promoting a shift away from the dirty coal that powers most of their electrical generators to cleaner natural gas. In both cases, CNOOC stands to benefit: its parent's expansion of refining capacity means it has a larger market to expand production, while its investment in Liquefied Natural Gas infrastructure means it will not only be able to produce the stuff, but transport it around the country as well. The growth of the Chinese economy, however, is a double-edged sword. CNOOC sells its oil to its parent in Yuan, and oil is pegged to the dollar. The Yuan has appreciated against the dollar since the Chinese government let it float in 2005, and so it makes less off its oil than it would if it sold to the international markets. This is a small price, however, given that the company has the favor of the Chinese government and the right to take shares in offshore Chinese projects started by Western oil companies.

Company Overview

CNOOC is the publicly-traded subsidiary of China National Offshore Oil Corp, and is China's largest offshore independent oil & gas exploration company.^[4]

Business and Financial Metrics

CNOOC has seen its revenues rise steadily, with growth tapering down from 2006 to 2007. Income before profit has also grown at a similar rate, through from 2006 to 2007 it actually fell because of China's "special oil gain levy" - essentially, a "windfall profit tax" - in China, levied on oil companies when the price of oil goes over $40/barrel.^[6] From 2006 to 2007, the amount of money the company paid to the tax doubled, though the company's revenue increased by just 2%^[7], because the price of oil soared, averaging $72 per barrel.^[8]

CNOOC Ltd. is owned in 64.41% share by its parent, CNOOC, which is a national oil company of China.^[9] This means that the Chinese government controls more than half of CNOOC Ltd's shares - and can overpower minority shareholders on certain vote-based issues.

CNOOC Ltd. Regional Reserve Breakdown for 2007^[10]

Business Segments

CNOOC Ltd. Revenue and Income Over Time (RMB Millions)^[11]

Oil & Gas Sales (80.5% of 2007 Revenue^[12])

CNOOC is the China's largest offshore oil production company; in 2007 it had estimated net proved reserves of 2,601.2 MMBOE, of which 1,564.1 MMBbls were crude oil and condensate and 6,222.8 Bcf were natural gas. Net production averaged 371.8 MBPD of crude oil and NGLs, and 559.6 MMCf/d of natural gas, which together totaled 469,407 BOE per day.^[13]

Marketing and Other (19.5% of 2007 Revenue^[14])

CNOOC's marketing segment sells oil to the PRC (People's Republic of China) and international trading markets. The company's sales are coordinated with the other big Chinese producers, PetroChina and Sinopec, by the National Development and Reform Commission.

CNOOC is Acquiring Awilco

China Oilfield Services Ltd., a unit of CNOOC, will pay $16.66 (85 kroner) a share, an 18.7% premium on the company's share price. Awilco’s board unanimously approved the offer and the deal, which still requires regulatory approval, but should be closed by October. China Oilfield will borrow about $2.3 billion to finance the deal.^[15] The deal with Awilco will immediately increase CNOOC’s own fleet of rigs by 47%, taking it from 15 units to 22. The company will control a total of 34 operated platforms once the deal is completed.^[16] The acquisition will also expand China Oilfield’s overseas operations, which accounted for just 18% of its revenue last year. The company would like overseas revenue to account for 30% of its total income by 2010. It’s also a step forward for CNOOC, which has been looking to expand but has been unable to secure a solid foothold abroad.^[17]

Trends and Forces

Rising Oil Prices Increase CNOOC's Margins

Oil cost less than $20 a barrel in 2000^[18] and averaged $72 per barrel in 2007.^[19] On July 3rd, 2008, crude oil futures reached a record high of $145.85^[20] Over the last decade, oil prices have fluctuated violently, but the overall trend has been up. As oil prices rise, independent oil & gas companies like CNOOC see their revenues and margins grow, as they can make more money while producing the same amount. In the first quarter of 2008, for example, CNOOC's production increased year-on-year by 5%, while the company's realized oil price rose 69%; consequently, the company's revenue rose 61%.^[21]

CNOOC is the Only Chinese Petroleum Exploration Company Allowed to Enter into Production Sharing Agreements with Western Oil Companies

CNOOC is the only Chinese oil companies allowed to enter offshore production sharing agreements with foreign oil companies - and foreign oil companies are only allowed to explore offshore China if they sign a production sharing agreement with CNOOC.^[22] Furthermore, CNOOC enters these production sharing agreements at no cost and with a 51% interest - by Chinese law.^[23] As Western oil companies expand across the globe to increase production and take advantage of soaring oil prices, they will want to develop the rich offshore Chinese oilfields - and CNOOC will be able to reap the benefits.

CNOOC's Business is Dependent on the Chinese Demand for Petroleum

In 2007, China produced a little more than 3.4 million barrels per day^[24] - less than half of the 7.9 million barrels per day estimated for the country's 2007 demand^[25]. China's government is loathe to become dependent on foreign oil, and has imposed high taxes on imported crude and refined products in order to stimulate the growth of its own oil companies (like CNOOC). As the Chinese economy grows, the country's demand will continue to out-pace its supply, and Chinese production companies like CNOOC will benefit. With the international economy lagging because of the global credit crunch and possibility of a recession in Western markets, however, it's possible that China's export-based manufacturing economy will slow, causing oil demand to fall and CNOOC's business to go with it.

CNOOC's Parent is Expanding its Downstream Production, Giving CNOOC's Production Room to Grow

CNOOC's Chinese parent company is building its first petroleum refinery in Guangdong Province; the refinery will have the capacity to produce 240,000 BPD, of which 52% will be gasoline, 18% will be diesel, and the remainder will be jet fuel.^[26] In the past, CNOOC's production was sold to its parent, who would then sell it to other refiners. With the parent preparing to enter refining production in September 2008, the market for CNOOC's petroleum is expected to expand, allowing the company to increase production without worrying about creating an oversupply.

A Chinese Transition Away From Coal to Natural Gas Creates New Opportunities for CNOOC's Gas Business

Two-thirds of China's electricity generation comes from coal-fired power plants^[27] - sources that generate tremendous amounts of greenhouse gases and particulate air pollution. To remedy some of these problems, China is planning on increasing natural gas usage from 3% to 5.3% by 2010^[28] For the Beijing Olympics, the city was planning on using natural gas for industrial, heating, and cooking purposes, in order to replace the use of up to 6.1 million tonnes of coal.^[29] As China's largest offshore producer^[30], CNOOC is in a strong position to benefit from increased gas demand. Furthermore, the company is working on building five different Liquefied Natural Gas terminals^[31] and 1600 km worth of coast-to-coast pipelines to help meet demand for gas throughout China.^[32]

The Appreciation of the Yuan Damages CNOOC's Profitability

Internationally, oil is traded in U.S. dollars, so CNOOC prices its petroleum in dollars. Its three largest customers, who make up 65% of the company's revenues, are Sinopec (47%), PetroChina (15%) and Panjin Northern Asphalt Company Limited (3%).^[33] With the majority of the company's customers purchasing oil in Yuan, CNOOC loses money when the Chinese currency appreciates, as the dollar, and, thus, oil, becomes less valuable. From July 21st, 2005, when China unpegged the Yuan and allowed it to float, to May 30th, 2008, the currency appreciated about 19.1% against the U.S. dollar. Fortunately for the company, about 96% of its debt is held in U.S. dollars, so there is a negative feedback effect as appreciation makes the company's debt less valuable.^[34]

Competition

As the largest offshore explorer in China, CNOOC faces little competition. PetroChina (owned by China National Petroleum Company) and Sinopec (officially, China Petroleum and Chemical Corporation) both drill and refine petroleum, and both are large enough to effectively compete, but both are controlled by the Chinese government. CNOOC doesn't compete with the oil majors because it has the right to take a majority share, without cost, in the projects of any Western oil company that wants to drill offshore China, so it actually benefits when foreign oil companies enter the country.

References

1. ↑ China Daily: "CNOOC announces new oil, gas discovery in Bohai Bay"
2. ↑ EIA: China: Oil
3. ↑ China Institute: "China 2007 oil demand steady at 7.9 mln bpd - EIA"
4. ↑ China Daily: "CNOOC announces new oil, gas discovery in Bohai Bay"
5. ↑ CEO 2007 20-F
6. ↑ ChinaMining: "China may raise threshold for windfall tax on oil gains: PetroChina president"
7. ↑ CEO 2007 20-F, page 10
8. ↑ EIA: "Short-Term Energy Outlook"
9. ↑ CEO 2007 20-F
10. ↑ CEO 2007 20-F, page 28
11. ↑ CEO 2007 20-F, page 10
12. ↑ CEO 2007 20-F, page 10
13. ↑ CEO 2007 20-F
14. ↑ CEO 2007 20-F, page 10
15. ↑ Today's Financial News: "CNOOC (CEO) Buys Awilco (AWLCF) for $2.5 Billion"
16. ↑ WSJ: "Cnooc Unit To Buy Awilco For $2.5 Billion"
17. ↑ SeekingAlpha: "CNOOC Secures Solid Overseas Foothold"
18. ↑ zFacts: "Crude Oil Prices Drive up Cost of U.S. Addiction"
19. ↑ EIA: "Short-Term Energy Outlook"
20. ↑ VOA News: "Oil Prices Soar to Record High of Nearly $146 a Barrel"
21. ↑ http://www.cnooc.com.cn/yyww/xwygg/267695.shtml CNOOC News and Bulletin: " CNOOC Ltd’s Q1 Revenues Surged 61.8%"]
22. ↑ CEO 2003 20-F, SELECTED FINANCIAL DATA
23. ↑ EIA: China: Oil
24. ↑ Earth Policy Institute: "Is World Oil Production Peaking?"
25. ↑ China Institute: "China 2007 oil demand steady at 7.9 mln bpd - EIA"
26. ↑ NewsGD: "CNOOC refinery to feed Guangdong market"
27. ↑ BBC News: "China unveils climate change plan"
28. ↑ Self Investors: "China Oil Perspective - CNOOC (CEO), PetroChina (PTR) & China Petroleum (SNP)"
29. ↑ Beijing Official Website: "Energy Development and Energy Mix Readjustment "
30. ↑ China Daily: "CNOOC announces new oil, gas discovery in Bohai Bay"
31. ↑ CNOOC Gas: LNG Business
32. ↑ CNOOC Gas: Natural Gas Transmission and Distribution Business
33. ↑ CEO 2007 20-F, Page F-83
34. ↑ CEO 2007 20-F, Page 20
35. ↑ COP 2007 10-K
36. ↑ RDS 2007 10-K
37. ↑ XOM 2007 10-K
38. ↑ CVX 2007 10-K
39. ↑ BP 2007 10-K
40. ↑ LUKOIL Company: General Information
41. ↑ E 2007 Annual Report
42. ↑ Total 2007 Results Press Release
43. ↑ CEO 2007 20-F