China's Nanpu Oil Find Shows Pitfalls of Estimating Reserves

BEIJING, (Dow Jones Newswires), Aug 16, 2007

The pitfalls of evaluating big oil finds were underlined this week when China's Ministry of Land and Resources certified PetroChina Co.'s (PTR) Nanpu oil discovery as having half the reserves of market estimates.

The Nanpu block in Bohai Bay's Jidong oil field in northern China was hailed by some analysts as the biggest find in China for decades after PetroChina said in May it could hold as much as 1 billion metric tons of oil equivalent, of which 405.07 million tons were classified as total proven reserves.

Although the proven reserves figure was revised up by 10% to 445 million tons by the ministry on Tuesday, analysts instead focused on the economically recoverable reserves estimate of 86.6 million tons, which is equivalent to 632 million barrels.

Economically recoverable reserves are the oil that a company thinks it has a high probability of bringing to the surface.

Credit Suisse said market estimates for the economically recoverable reserves at Nanpu ranged from 1.2 billion barrels to 3 billion barrels. Another bank, UBS, put consensus estimates at 1.2 billion barrels of oil equivalent.

Such high estimates were common because PetroChina had guided the market towards a 40% recovery rate of the total proven reserves, Credit Suisse analyst Prashant Gokhale said. This compared with the 20% recovery rate implied by the ministry's estimates.

"This is key as (the economically recoverable reserves) determine the value that will accrue to shareholders," said Gokhale.

PetroChina spokesman Mao Zefeng said the ministry's assessment, which was the first to be made of economically recoverable reserves at Nanpu, was conservative.

"The ministry's estimates are using an initial recovery factor based on current production plans and producing well patterns," Mao said.

"We expect the ultimate recovery rate to be higher," Mao added, citing the potential for using enhanced oil recovery methods and technology.

PetroChina shares surged more than 10% in trading directly after the May announcement of the Nanpu oil discovery, although they have since retreated, partly due to concerns about PetroChina's overall costs and the impact of a windfall tax on oil sales and retail oil products price caps on the company's earnings.

PetroChina's shares closed Thursday at HK$9.96, down from their all-time intraday high of HK$12.60 on July 13, and HK$11.02 on Dec 29, the last trading day of 2006.

Nanpu Development Faces Challenges

China's oil consumption is rising rapidly, putting pressure on PetroChina, China Petroleum & Chemical Corp. (SNP), known as Sinopec, and Cnooc Ltd. (CEO) to make new discoveries that can help slow the growth in foreign crude imports.

In a report last month, oil and gas consultancy Wood Mackenzie noted that China's state oil trio doubled their domestic upstream expenditure to $21.5 billion between 2004 and 2006.

Nanpu has echoes of the excitement generated by the discovery by Sinopec of a major gas field at Puguang in Sichuan and subsequent bullish pronouncements, only for the proven reserves to come in 30% below market expectations.

Chinese authorities this year certified Sinopec's proven natural gas reserves at Puguang at about 356 billion cubic meters when the market had been expecting a figure between 500 billion and 550 billion cubic meters.

One of the engineers working at Nanpu told Dow Jones Newswires that the oil-bearing structures were characterized by a lot of geological faults.

This meant that the oil was lying in small, individual pools rather than in a complete field like PetroChina's flagship oil-producing hub of Daqing. He compared Nanpu's geological structures with those present in the Gulf of Thailand.

The implications for PetroChina include higher drilling costs as it will have to drill more vertical wells to access the oil, the engineer said on condition of anonymity.

In addition, it would be very difficult to use injection techniques that ensure there is adequate pressure to force the oil out through the wells, he said.

But analysts said there were grounds for optimism as a lot of work at the field still had to be done.

"While economically recoverable reserves are currently far below our expectations, we remain comfortable that the level will rise in the next two years through further exploration and development work," said UBS analyst Thomas Wong.

PetroChina had drilled 76 exploration and appraisal wells in the Jidong oil field, of which Nanpu is a part, compared with 1,405 wells in all its fields, he noted.

"Thus, we believe the fields are at a very early stage of exploration," Wong said.

Credit Suisse's Gokhale also said that any disappointment should be kept in perspective.

"Nanpu is undoubtedly big and exciting - 632 million barrels would still make it one of the biggest discoveries of recent times," Gokhale said.

But he added: "Even if one takes the view that this will go up over time, it would still have to double to reach" consensus estimates.

Copyright (c) 2007 Dow Jones & Company, Inc.