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					                                                                                                                                           25 June 2012
                                                                                                                                       Asia Pacific/China
                                                                                                                                        Equity Research
                                                                                                                                       Energy / Oil & Gas




                                                China Oil and Gas Sector
                         Research Analysts
                                                    SECTOR REVIEW
                                David Hewitt
                               65 6212 3064
             david.hewitt.2@credit-suisse.com
                                                Chinese shale gas: 'Embryonic energy'?
                                 Horace Tse
                             852 2101 7379      Figure 1: US actual versus CS China shale gas production scenarios
                horace.tse@credit-suisse.com
                                                 (bcm/year)
                                                200
                                                180
                                                160
                                                140
                                                120
                                                100
                                                    80
                                                    60
                                                    40
                                                    20
                                                     -
                                                    US: 2000     2001    2002      2003      2004   2005     2006      2007   2008     2009      2010   2011
                                                    China:2009   2010    2011      2012      2013   2014     2015      2016   2017     2018      2019   2020

                                                                        US shale gas production        China - low shale        China - high shale

                                                Source: US EIA, NDRC, Credit Suisse estimates

                                                China recently announced aggressive shale gas production targets: 6.5 Bcm by
                                                2015 and 60-100 Bcm by 2020. In this report, we look at China’s embryonic
                                                shale gas story, to assess both progress and prospectivity thus far.
                                                ■        The driver—energy security: Without shale gas, China will be 50%
                                                         dependent on imported gas by 2020, but would not need further gas imports
                                                         if shale production hits the upper target of 100 Bcm.
                                                ■        The main challenge—‘time on the block’: Water will be an issue, but no
                                                         more so than in the US; indigenous rig capability is reasonable, while the
                                                         horsepower is lacking—we conclude that a lack of experience with the
                                                         Chinese shale geology is the largest challenge to the 2020 target.
                                                ■        The math—60 Bcm by 2020 is aggressive, but not ridiculous: Our base
                                                         case suggests that 1,600 wells p.a. could be required by 2020 to hit the
                                                         lower end of the production target (60 Bcm).
                                                ■        Still in the learning phase—look to service providers: Given the
                                                         embryonic state of the shale story in China we suspect the theme is better
                                                         played through service sector providers, both rig producers, well
                                                         drilling/fracturing contractors as well as drill pipe providers.




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U.S. Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result,
investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors
should consider this report as only a single factor in making their investment decision.
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             anonymous@anonymous.com FIRST LAST 06/26/12 01:09:01 PM Hong Kong Highpower
                                                                                                                                                                         25 June 2012




Focus charts
Figure 2: Effect of shale gas on China’s gas production                                     Figure 3: China un-contracted gas import requirements—
balance—60 Bcm case by 2020                                                                 three scenarios
 (bcm/year)                                                                                  (bcm/year)
450                                                                                         100
400                                                                                          80

350                                                                                          60
                                                                                             40
300
                                                                                             20
250
                                                                                               0
200                                                                                          -20
150                                                                                          -40
100                                                                                          -60

 50                                                                                          -80
                                                                                            -100
      -                                                                                             2011    2012    2013    2014     2015      2016      2017    2018     2019    2020
          2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
                                                                                                     Uncontracted supply - no shale                   Uncontracted supply - low shale
            Conventional Gas     CBM       Import requirement    Shale Gas - 60 Bcm case
                                                                                                     Uncontracted supply - high shale

Source: Credit Suisse estimates                                                             Source: Credit Suisse estimates

Figure 4: China—shale gas supply cost vs. LNG/Central                                       Figure 5: China NDRC’s shale gas production target range
Asia imported gas                                                                           vs. the US
 (US$/mcf)                                                                                    (bcm/year)
18                                                                                          300
16
                                                                                            250
14
12                                                                                          200
10
                                                                                            150
 8
 6                                                                                          100
 4
                                                                                             50                                                  100bcm
 2
                                                                                                                               6.5bcm             60bcm
  -                                                                                           0
           Sichuan shale gas - 2020                LNG                 Turkmenistan gas                     2010                        2015                            2020
                FOB / well-head price         Carriage to well-head to provincial gate                                             China    US

Source: Credit Suisse estimates                                                             Source: US EIA, NDRC, Credit Suisse estimates

Figure 6: US actual versus China drill-up scenarios                                         Figure 7: China—extrapolated US growth to 2023
140%                                                                                          (bcm/year)
                                                                                            120
120%
                                                                                            100
100%
                                                                                             80
 80%

 60%                                                                                         60

 40%                                                                                         40

 20%                                                                                         20

  0%
                                                                                              0
  US:    2006                  2007         2008         2009          2010          2011
                                                                                                   2015     2016     2017     2018      2019      2020       2021       2022     2023
  China: 2015                  2016         2017         2018          2019          2020
                               China low            China high           US                                 China - following the US growth experience (extrapoloated)

Source: Credit Suisse estimates                                                             Source: Credit Suisse estimates



China Oil and Gas Sector                                                                                                                                                                 2
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Shale gas in China: ‘Embryonic
energy’?
China recently announced aggressive shale gas production targets: 6.5 Bcm (0.6 Bcf/d) by
2015 and 60-100 Bcm (5.8–9.7 Bcf/d) by 2020. In this report, we look at China’s
embryonic shale gas story, to assess both progress and prospectivity thus far.

The driver: Energy security
China is learning the hard way the challenges of being significantly dependent on imported        China clearly doesn’t want
crude oil going forward. With an abundance of indigenous unconventional gas we suspect            gas to have the same
China’s planners are keen to avoid the same degree of dependence in gas. With no                  degree of dependency as oil
domestic shale gas production, by 2020 China would have to commit to a further 80 Bcm
of gas imports—but if domestic shale does hit the target range (60-100 Bcm by 2020) the
need for further gas imports would be largely obviated. This is clearly important from an
energy security perspective but would also significantly reduce the input cost of that
incremental gas, assuming that domestically sourced shale gas could significantly
undercut pipeline and LNG imports.

The main challenge: ‘Time on the block’
We look through the primary challenges for shale developments in China, concluding that           Experience in exploring/
while water is precious in China its use in shale would be no more of a challenge that in         exploiting Chinese shale
the US (and a very small percentage of the national total), that China has both indigenous        could be the real challenge,
rig construction capability and a reasonably large (if not specialised for shale) fleet and       in our opinion
that pipeline would be an issue if the ambitious planned gas pipe expansions were not
achieved. The real challenge, in our opinion, will be building experience exploring/
exploiting Chinese shale to reach the production take-off point the US hit in 2006.

The math: 60 Bcm by 2020—aggressive, but not
ridiculous
We run a base case, assuming an average initial well production (IP) of 4 mmcfd and an            China will need to drill
average Estimate Ultimate Recovery (EUR) of 2.3 Bcf per well. Under such a scenario               1,500-1,600 shale wells p.a.
China would need to be drilling 1,500-1,600 shale wells annually from 2018 to hit the 60          from 2018 to reach the 60
Bcm target. If the US experience is in any way Chinese production in 2015 will be                 Bcm
important. Applying the US 2006-11 experience to China (2015-20) suggests it could hit
the 60 Bcm target by 2022, and 100 Bcm the following year.

Still in the learning phase—look to service suppliers
The upcoming award of 20 new shale gas blocks will spark a wave of exploratory activity           We identify a few listed OFS
in the sector, building on the initial work being done on the ‘trial’ blocks. With a meaningful   players that are exposed to
potential production ramp-up in China it would seem logical to focus on the shale service         the potential shale gas
sector. We look through the sector value chain identifying Chinese players like rig-maker         boom
Honghua (0196.HK, Not Rated), Pressure pump supplier Yantai Jereh (002353.SZ, Not
Rated), proppant supplier Enti (unlisted), and drilling service players Anton Oil (3337.HK,
Not Rated), SPT Energy (1251.HK, Not Rated) and Sinopec Engineering (unlisted).




China Oil and Gas Sector                                                                                                     3
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Sector valuation
Figure 8: China’s shale gas value chain



             Upstream                   Equipment/materials                      Oilfield Service                      Mid/downstream
              player                         supplier                                provider                              operator



        PetroChina (857 HK)             Land rigs:                              Anton Oil (3337 HK)                 Water purification:
        Sinopec (386 HK)                   Honghua (196 HK)                     SPT Energy (1251 HK)                   Aegis (not listed)
        CNOOC (883 HK)                     BOMCO (not listed)                   Hilong (1623 HK)
        Shell (RDSa.L)                     Lanzhou Lanshi (not listed)          COSL (2883 HK)
        Chevron (CVX)                      RG Petro Machinery (not listed)      Sinopec Engineering                 CNG/LNG transportation:
                                                                                (not listed)                          CIMC Enric (3899 HK)
                                        Pressure pumps:                         Orion Energy (not listed)
                                           Yantai Jereh (002353 SZ)                                                 NGV:
                                                                                                                      Weichai-Westport (not listed)
                                        Proppants:                                                                    Kunlun Energy (135 HK)
                                           Carbo (CRR US)
                                           Saint-Gobain (SGO FP)
                                           Yixing Orient Petroleum Proppant
                                           (not listed)
                                           ENTI (not listed)
Source: Credit Suisse estimates

Figure 9: China’s shale gas value chain—valuation comps
                                               Price     TP Mkt cap 6M trading vol     P/E (x)     EV/EBITDA (x)     P/B (x)    ROE (%)         Net D/E
Company              Ticker       FX    Rat.   LC/sh   LC/sh US$ mn           US$ mn   12E   13E     12E     13E       11A      12E       13E       11A
Upstream players
PetroChina           0857.HK      HK$    O     10.46   13.30 246,707              98 10.2 10.9        5.2     5.1      1.57    14.1%   12.2%       26%
Sinopec              0386.HK      HK$    N      7.00    7.05   78,213             82   8.1 14.8       4.6     5.6      1.05    12.1%    6.5%       44%
CNOOC                0883.HK      HK$    O     14.98   18.30   86,188            119   6.5   6.3      3.4     3.2      2.09    25.7%   22.1%    Net cash


Royal Dutch Shell    RDSa.L        £     N     2,131   2,530   85,395            113   4.5   4.2      2.3     2.1      0.78    15.4%   15.1%       15%
Chevron              CVX          US$    O     100.0   130.0 198,265             209   7.0   6.2      2.9     2.7      1.62    20.3%   19.6%    Net cash


Oilfield Service provider
Anton Oil            3337.HK      HK$   NR      1.16       -     317            0.61 10.8    7.2      4.7     3.5      1.21     7.3%   12.9%    Net cash
SPT Energy           1251.HK      HK$   NR      1.34       -     231            0.79   5.4   4.0      2.9     2.3      1.69    23.9%   24.1%    Net cash
Hilong               1623.HK      HK$   NR      1.85       -     349                   5.5   4.7      3.5     3.1      1.19    17.5%   17.9%       21%
COSL                 2883.HK      HK$    O     11.08   14.00    6,419           12.9   8.7   7.9      6.8     6.2      1.44    15.1%   14.8%       76%


Schlumberger         SLB          US$   NR     62.56       -   83,427            186 14.7 12.0        7.8     6.7      2.67    18.0%   20.2%       16%
Haliburton            HAL         US$   NR     28.35       -   26,167            116   8.6   7.7      4.4     3.9      1.98    20.7%   20.3%       16%


Lang rig manufacturer
Honghua              0196.HK      HK$   NR      1.25       -     519            0.46   7.6   5.5      3.4     2.7      0.81     8.6%   10.5%    Net cash


Pressure pump manufacturer
Yantai Jereh         002353.SZ    RMB   NR     45.87       -    3,310           12.9 35.1 25.1       26.0    18.3      8.18    20.2%   22.6%    Net cash


Proppants supplier
Carbo                CRR          US$   NR     75.70       -    1,748             71 13.9 11.2        7.2     5.7      2.77    17.0%   17.9%    Net cash
St. Gobain           SGOB.PA       €     O     27.73   37.00   11,842             61   8.6   7.6      4.6     4.3      0.82     9.0%    9.8%       44%
Note: O = OUTPERFORM, N = NEUTRAL, U = UNDERPERFORM, NR = NOT RATED
Source: I/B/E/S, company data, Credit Suisse estimates




China Oil and Gas Sector                                                                                                                              4
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Government drivers
Energy security is at the heart of China’s push into shale: China faces a hard future
with oil supply—potentially having to import 10 mn barrels per day by 2020, 10% of
estimated global production. While gas only plays a minor role in primary energy use
(currently at 4%), China wants to increase gas’ share in the total mix, for both
environmental reasons and overall growth factors. What China does not want to do is end
up with a gas supply as dependent on foreign sources as it is for oil.

Figure 10: China / US—exploitable shale gas reserve estimates
 (tcm)
 30


 25


 20


 15


 10


  5


  -
                               China                                                   US

Source: Ministry of Land & Resources, US EIA

China may have twice the shale gas reserves in the US: At the start of 2012, the EIA
significantly reduced its estimate of technically recoverable shale gas reserves to 482 Tcf
(13.6 Tcm). In March this year the Chinese Ministry of Land & Resources estimated that
China has 25.1 Tcm of exploitable onshore shale gas reserves (lower than the previous
EIA estimate of 36 Tcm).

Figure 11: China—potential import scenario without domestic shale production
 (bcm/year)
 450

  400

  350

  300

  250

  200

  150

  100

   50

      -
          2008   2009   2010    2011      2012     2013   2014   2015     2016        2017   2018   2019   2020

                                       Conventional Gas   CBM    Import requirement

Source: Credit Suisse estimates




China Oil and Gas Sector                                                                                                    5
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Without shale production China could be 50% dependent on imported gas by 2020:
Assuming conventional domestic production attains a 9% CAGR, CBM hits 30 Bcm/year
by 2020 and demand sees a 15% CAGR, the call on import gas (LNG and pipeline) would
be 180 Bcm/year—around 50% of total gas demand at that time. Currently, China has
long-term LNG contracts for 51 Bcm/year (including options for projects not yet sanctioned
i.e., APLNG) and 52-87 Bcm/year of pipeline contracts with Turkmenistan, Kazakhstan
and Myanmar (the range reflects a further 35 Bcm/year rumoured to have been committed
to by China with Turkmenistan) —leaving a shortfall of 42 to 77 Bcm/year.

Figure 12: Effect of shale gas on China’s gas production balance—60 Bcm case by 2020
 (bcm/year)
 450

 400

 350

 300

 250

 200

 150

 100

  50

    -
        2008   2009   2010     2011      2012    2013    2014      2015   2016     2017     2018     2019   2020

                      Conventional Gas     CBM      Import requirement    Shale Gas - 60 Bcm case

Source: Credit Suisse estimates

Import dependency would reduce to 20-30% if shale ‘succeeds’: The government has
a quoted target of shale gas production between 60 Bcm and 100 Bcm/year by 2020 (and
6.5 Bcm in 2015)—if this is achievable, it significantly reduces the need for further gas
imports beyond those already committed to. If the higher 100 Bcm target was hit 79
Bcm/year of gas imports would be required, which would be more than met by existing
import contracts and the additional 35 Bcm/year Turkmenistan supply.

Figure 13: Effect of shale gas on China’s gas production balance—100 Bcm case by 2020
 (bcm/year)
 450

 400

 350

 300

 250

 200

 150

 100

   50

    -
        2008   2009   2010     2011      2012    2013    2014      2015   2016     2017     2018     2019   2020

                      Conventional Gas     CBM      Import requirement    Shale Gas - 100 Bcm case

Source: Credit Suisse estimates




China Oil and Gas Sector                                                                                                     6
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China would need to contract for further gas from 2017, without W-E III: With no
shale production and without the additional 35 Bcm/year speculated to have been agreed
from Turkmenistan (‘W-E III’), China would be short gas by 2017, in our scenario (demand
sees a 15% CAGR going forward), the 60 Bcm target by 2020 would extend that need to
2019, and the 100 Bcm target by 2020 would mean China not having to contract for any
further import gas in this decade.

Figure 14: China un-contracted gas import requirements—three scenarios
 (bcm/year)
 100
  80
  60
  40
  20
   0
  -20
  -40
  -60
  -80
 -100
          2011         2012        2013        2014         2015        2016        2017     2018        2019        2020

              Uncontracted supply - no shale          Uncontracted supply - low shale      Uncontracted supply - high shale

Source: Credit Suisse estimates

With W-E III and shale production the door is firmly shut for further gas imports:
Under the same demand scenario, but bringing W-E III into the base case (20 Bcm in
2016, 35 Bcm/year thereafter) would mean that ‘even’ 60 Bcm/year by 2020 would leave
China long gas to the end of the decade; if it hits the 100 Bcm/year upper target, it would
be 60 Bcm/year long gas in 2020.

Figure 15: China—un-contracted gas import requirements (incl. Turkmenistan II gas)—
three scenarios
 (bcm/year)
 100
  80
  60
  40
  20
   0
  -20
  -40
  -60
  -80
 -100
          2011         2012        2013        2014         2015        2016        2017     2018        2019        2020

              Uncontracted supply - no shale          Uncontracted supply - low shale      Uncontracted supply - high shale

Source: Credit Suisse estimates

Gas cost also drives the focus on shale: CS is not a believer in global LNG price
convergence, and expects APAC LNG prices to continue to be significantly correlated to
crude oil through the remainder of the decade and into the next (please see our recent


China Oil and Gas Sector                                                                                                                7
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Global LNG Sector update report, Tighter then looser, 8 June 2012). We estimate a 40%
correlation to crude for the Turkmenistan gas, at the country border, with a further
US$2.3/mcf as the transportation fee through Kazakhstan/Uzbekistan—hence at
US$100/bbl this suggests a price at China’s western boundary of US$9/mcf—and a
provincial gate cost to supply of US$13-13.5/mcf for eastern seaboard provinces.
For LNG, we expect landed prices in North Asia to sit in the US$18-19/mmbtu range until
the mid of the decade, then fall back to circa US$14/mmbtu as crude moves back into an
‘equilibrium’ pricing range (we would add US$1/mmbtu as a placeholder for re-gas cost to
convert DES LNG prices to a provincial gate price). If shale is produced in Sichuan and it
follows a broadly similar scale/unit cost to produce reduction as the US shale gas could be
produced at circa US$4/mcf (well-head), hence a Provincial gate supply cost (including a
return to the upstream) of circa US$6/mcf in the Eastern Seaboard provinces.

Figure 16: China—shale gas supply cost vs LNG/Central Asia imported gas
 (US$/mcf)
  18

  16

  14

  12

  10

   8

   6

   4

   2

   -
             Sichuan shale gas - 2020                    LNG                                Turkmenistan gas

                              FOB / well-head price   Carriage to well-head to provincial gate

Source: Credit Suisse estimates




China Oil and Gas Sector                                                                                                 8
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The target
Figure 17: China NDRC’s shale gas production target range
 (bcm/year)
300


250


200


150


100


 50                                                                    100bcm
                                                 6.5bcm                 60bcm
  0
                    2010                               2015                                 2020

                                                    China     US

Source: NDRC, US EIA

6.5 Bcm by 2015, 60 to 100 Bcm by 2020: The current five-year plan is primarily
dedicated to China accelerating through the exploration and appraisal phase for domestic
shale gas production, with the hope that this pre-work translates into an aggressive
production ramp-up in the 2016–20 plan period—hence, the target of 6.5 Bcm/year by
2015 and a broad target range of 60 to 100 Bcm/year by 2020.

Figure 18: US actual vs CS China shale gas production scenarios (time sequenced)
 (bcm/year)
200
180
160
140
120
100
 80
 60
 40
 20
   -
 US: 2000       2001       2002   2003      2004    2005      2006     2007   2008     2009        2010   2011
 China:2009     2010       2011   2012      2013    2014      2015     2016   2017     2018        2019   2020

                       US shale gas production         China - low shale        China - high shale

Note: For demonstration purposes we show the first inflection point year for the US (2006) as 2015 for
China—purely for comparison purposes
Source: US EIA, NDRC, Credit Suisse estimates

Is China hoping that 2015 is ‘US 2006’? The US recorded a very pedestrian rate of
shale production growth during 2000–05, but really accelerated on both percentage and
absolute production growth terms in and after 2006, going from 15 Bcm in 2005 to 31 Bcm
in 2006 (+107% YoY), then adding 40-50% annually thereafter.




China Oil and Gas Sector                                                                                                   9
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Figure 19: US actual versus China drill up scenarios
 140%

 120%

 100%

  80%

  60%

  40%

  20%

   0%
       US:    2006              2007                2008                2009              2010             2011
       China: 2015              2016                2017                2018              2019             2020
                                           China low            China high         US

Source: Credit Suisse estimates

The 60 Bcm target is not completely unrealistic—though 100 Bcm looks unrealistic:
In our scenarios, we assume China achieves its 6.5 Bcm shale gas production target in
2015, and ramps up from that level to achieve the lower and upper ends of the announced
target. To reach 60 Bcm by 2020 requires production to attain a CAGR of 56% over 2016-
20, while the 100 Bcm target would require a production CAGR of 72%. Figure 19 shows
the percentage ramp-up required vs the US actual experience—which recorded a
production CAGR of 42% during the 2006-11 period.

Figure 20: China—shale gas production following a US growth trajectory
 (bcm/year)
100
 90
 80
 70
 60
 50
 40
 30
 20
 10
   -
              2015             2016                2017                2018               2019             2020
                     China - applying the US growth rate             China - higher 2015 to reach 60 Bcm
                     China - yet higher 2015 to reach 100 Bcm

Source: Credit Suisse estimates

10-17 Bcm in 2015 would be a much better ramping point in China: Just for the
analysis’ sake we apply the US production ramp during 2007–11 to the 6.5 Bcm that China
targets by 2015 which would suggest 38 Bcm production by 2020. However, if China was
producing 10 Bcm in 2015, applying the US production ramp would see China achieving
the 60 Bcm target by 2020, and the 100 Bcm target would be achieved if 2015 production
was 17 Bcm.




China Oil and Gas Sector                                                                                                   10
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Figure 21: China—extrapolated US growth to 2023
 (bcm/year)
 120


 100


  80


  60


  40


  20


   0
          2015       2016     2017         2018          2019         2020          2021   2022   2023

                              China - following the US growth experience (extrapoloated)

Source: Credit Suisse estimates

Is 2021–23 a more realistic target? Again, starting with the 6.5 Bcm production target in
2015, if we use the average 42% US production CAGR (2006-11) China would hit the 60
Bcm target in 2022 and 100 Bcm in 2023.




China Oil and Gas Sector                                                                                          11
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China—the story so far
Prospectivity—twice as large as in the US: The Sichuan and Tarim basins are deemed
to be the most prospective at this point, with deposits also in the Ordos, Junggar, Tuha
and Bohai basins. The most recent forecast of recoverable shale resources in China is 25
Tcm (EIA – 2012 estimate)—similar to the US. Chinese estimates vary for in-place and
recoverable resources, but conclude that some 70% of the total shale gas in-place is in
three marine shale areas, namely South China, North China and the Tarim basin.
Two shale gas blocks formally awarded thus far: The MLR (Ministry of Land and
Resources) offered four shale gas blocks in 2011 to six qualified bidders, of which two
were eventually taken up—one by Sinopec (Nanchuan block) and the other by Henan
Provincial Coal Gas Dev’t & Utilisation Co (Henan CBM – the Xuishan block); both blocks
are in Chongqing. The bid requires a minimum US$3,000 spend/km p.a.

Figure 22: China—current view of shale gas deposits distribution




Source: US EIA

20 further blocks to be bid in 2012: The second round of bidding has been delayed since
late 2011, likely due to the disappointing response in the first round, and a focus on which
type of entities should be eligible to bid. Initially, the plan was for only Chinese SOEs to be
involved in the bids—but this appears to have since been extended to both Chinese
independents and foreign companies in a JV with a suitable local partner. Apparently 17
companies have pre-qualified for the second round (source OGP – 15 May 2012).



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63 test wells drilled up to April 2012: Of these 63 wells, 58 are shale gas and five shale
oil wells, with 15 of these being horizontal. In 2011, 18 shale wells were drilled in China, of
which 16 were vertical and two horizontal. Industry sources suggest vertical frac wells cost
an average of US$250,000 per well, while horizontal fracs cost an average
US$600,000/well.
Multiple ‘trial’ initiatives between Chinese and foreign entities: PetroChina is working
with Shell, and is now in the process of converting its trial agreement with Shell into a
Production Sharing Contract (PSC) for the Fushan-Yongchuan shale gas play in Sichuan
(awaiting final approval). It has also signed a trial agreement with Henan CBM for the
Xuishan block. Apart from PetroChina, CNOOC apparently is also working with Shell in
Anhui—the two have signed a joint study agreement (JSA) that will commit Shell to
providing technical assistance for CNOOC to explore shale gas.
BP is working with Sinopec while Total also recently signed a pact to work on shale with
Sinopec. Chevron has announced it is working in the Qianna basin, and is starting seismic
data capture in July. Exxon is also working with Sinopec, in a study signed in mid-2011 in
Sichuan. Statoil is reportedly in talks with Shenhua. PetroChina is also reportedly working
with Conoco on shale gas exploration.
Shell appears ahead at this point: Converting its trial agreement into a PSC is a major
step forward for Shell/CNPC PetroChina. So far, 15 shale wells have reportedly been
drilled, with Yang 101 + 102 each producing an average of 100,000m3/day (3.5 mn cubic
feet/day) on the 3,500 km2 Fushan block. Shell is talking about a drill-up programme of
500-1,000 wells. It has already purchased three shale gas rigs from Honghua (0196.HK,
Not Rated), and stated its plans (Source: Upstream publication) to use 30 frac units in the
drill up of the Fushan block. The same article talked about Shell committing to spend
US$1 bn/year over the next five years on shale in China. The next phase is the bid and
award of a Front End Engineering and Design (FEED) contract for the development of the
block. Worley Parsons, Fluor and AMEC are all reportedly interested in participating—
although a local partner is thought to be required for these companies to be eligible to bid.




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The math
Shale gas production declines rapidly in the first few years of well cycle. Unlike
conventional oil and gas production wells, shale wells typically decline rapidly in the early
part of a well cycle and then slow down towards the middle and latter part. In our typical
shale gas well, we have production declining by 73% by the end of Year 1, 37% by Year 2
and 25% by Year 3. At the start of Year 4, we already have flow rates 90% below the initial
production. This mirrors production declines of 75% in the first four years in Marcellus
shale area in the US.
We assume an initial production (IP) rate of 4 mmcfd in our base case. We also run
scenarios around our base case—in the high case scenario, we assume an IP rate of 8
mmcfd, while in our low case scenario, we assume an IP rate of 2 mmcfd. Under our base
case the EUR reaches 2.3 bcf per well, and in our high and low cases the EUR is at 4.6
bcf and 1.2 bcf per well, respectively.

Figure 23: Production curve for a typical shale gas well

 Prod rate mmscfd                          Raw Gas Production Forecast                               Cum prod mmscf
 4,500                                                                                                         7,000
 4,000
                                                                                                                    6,000
 3,500
                                                                                                                    5,000
 3,000
 2,500                                                                                                              4,000

 2,000                                                                                                              3,000
 1,500
                                                                                                                    2,000
 1,000
                                                                                                                    1,000
   500
    -                                                                                                               -
         0                        60                          120                    180                      240
                                                              Month

                                            Rate q @ t (MCFPD)         Cum Q @ t (MMCF)

Source: Industry data, Credit Suisse estimates

Figure 24: Shale gas production curve—high case                                     Figure 25: Shale gas production curve—low case

                         Raw Gas Production Forecast                                                          Raw Gas Production Forecast


 9,000                                                                      7,000     2,500                                                                  7,000
 8,000                                                                      6,000                                                                            6,000
 7,000                                                                                2,000
                                                                            5,000                                                                            5,000
 6,000
                                                                            4,000     1,500                                                                  4,000
 5,000
 4,000                                                                      3,000                                                                            3,000
                                                                                      1,000
 3,000
                                                                            2,000                                                                            2,000
 2,000                                                                                 500
 1,000                                                                      1,000                                                                            1,000
    -                                                                       -              -                                                                 -
         0              60                120           180           240                      0         60                  120        180            240
                                          Month                                                                             Month
                     Rate q @ t (MCFPD)            Cum Q @ t (MMCF)                                  Rate q @ t (MCFPD)             Cum Q @ t (MMCF)

Source: Industry data, Credit Suisse estimates                                      Source: Industry data, Credit Suisse estimates




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Figure 26: Number of wells required to get to 60 Bcm/100 Bcm NDRC target
                                                  60 Bcm scenario                      100 Bcm scenario
                                                 Low      Base         High         Low            Base      High
IP rate (mmcfd)                                 2.0         4.0          8.0        2.0              4.0      8.0
Cumulative # of wells – by 2015                 820         410          205        820              410      205
Cumulative # of wells – by 2020              12,800       6,800        3,400     20,300           10,100    5,100
Source: Credit Suisse estimates

Under our base case we estimate China needs to drill 6,800 wells by 2020 to get to
the bottom-end of the NDRC production target. To reach the NDRC’s 6.5 Bcm target by
2015, we estimate 410 wells to be drilled. As we enter the latter part of the decade we
expect drilling activities to ramp up significantly, with the number of wells drilled increasing
by 400/year until 2018. In essence, we estimate 6,400 wells to be drilled in the latter part
of the decade.
It is worth noting that Figure 27 below is simply an illustrative example of China’s shale gas
production profile to achieve the 60 Bcm target. We did not carry on with the drillings post
2020 in our exercise, hence the sharp decline in production once China hits the 2020 target.

Figure 27: China 60 Bcm shale gas production scenario—                         Figure 28: Number of shale gas wells assumed under CS
CS base case                                                                   base case
 (bcm)                                                                          (w ells)
70                                                                             1,800
                                                 60bcm NDRC target                                                                               1,600
60                                                                             1,600                                               1,500 1,500
                                                                               1,400
50
                                                                               1,200                                       1,100
40                                                                             1,000

30                                                                               800                                700
                                                                                 600
20
                                                                                 400                       300
10
                                                                                 200                 100
                                                                                            10
  -                                                                                -
      2013   2015    2017   2019   2021   2023    2025   2027   2029                       2013     2014   2015     2016   2017    2018   2019   2020

Source: Credit Suisse estimates                                                Source: Credit Suisse estimates

We estimate China needs 10,000 wells by 2020 to achieve the 100 Bcm production
target. With this we assume an even more significant ramp-up in drilling activities starting
2016; under this scenario, we expect China to drill 9,000+ wells in the latter part of the
decade.




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Figure 29: China 100 Bcm shale gas production                           Figure 30: Number of shale gas wells assumed
scenario—CS base case
 (bcm)                                                                   (w ells)
120                                                                     3,500
                                                  100bcm NDRC target                                                                     3,000
100                                                                     3,000
                                                                                                                                 2,500
                                                                        2,500
 80
                                                                                                                         1,950
                                                                        2,000
 60
                                                                        1,500
                                                                                                                 1,400

 40
                                                                        1,000                             850

 20
                                                                          500                     300
                                                                                     10    100
   -                                                                        -
       2013   2015    2017   2019   2021   2023    2025   2027   2029               2013   2014   2015    2016   2017    2018    2019    2020

Source: Credit Suisse estimates                                         Source: Credit Suisse estimates




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The challenges
Costs
US horizontals range between US$5 mn and US$10 mn per well. Based on our US
E&P Team’s estimates, a horizontal well in the US could cost anywhere from US$5 mn to
US$10 mn. In the Eagle Ford, with depths of 3,000-3,600 meters (10-12,000 feet) and
laterals roughly 1.6 km long, well costs range from US$6.5-8.5 mn on average. In the
Bakken reserve, with comparable depths and longer lateral of 3 km, well costs can be
closer to US$10 mn. Vertical wells on average are closer to US$2-3 mn, but obviously
depth dependent.
Current drilling costs in China are high… Our understanding from industry players
suggests that the first few horizontal wells drilled in China cost 2-3x that of the US.
Currently, a single horizontal well could cost somewhere around US$15 mn in China.
…but are expected to come down with higher economies of scale. Upstream players
plan to bring costs down to a level comparable to the US as production ramps up in
China—for example, Shell JV targets US$4 mn per well in the long run.

Land access
Land access the remit of the Ministry of Land and Resources (MLR): The MLR
controls the allocation of land use rights, both on and below the ground in China. Hence,
there is a clear pathway to land access for shale gas developers in China, for future blocks
to be awarded. Shale is almost certainly also on blocks of land currently allocated for
another primary exploitation (i.e., coal bed methane or coal). The principle to be applied in
these cases is that the holder of land for the initial purpose has the ‘right of first approval’
to re-apply to the MLR to extract shale. Given the infancy of the shale gas story in China,
what is not yet clear is whether there will be a significant issue between above ground land
users (primarily agricultural) and shale exploitation.

Rigs
China is ‘rig rich’ but will still need considerable additional rigs to drill up its shale
production target. From our interactions with industry consultants and operators we
understand that there is no official land rig count in China. Based on our knowledge, we
estimate China has around 1,500 land rigs on the ground. However, almost all of the fleet
are not tailored for shale gas drillings. Honghua last year sold three land rigs to Shell’s JV
in China with shale drilling specifications.
We estimate China needs 280 additional rigs in our base case scenario for producing
60 Bcm by 2020. This is based on the assumption that it takes 1.5 months to drill one well,
and all the rigs operate at a 70% utilisation rate. Should China produce 100 Bcm by 2020
(the high-end of the target), it will need 540 additional rigs, based on our analysis. The
additional 280 rigs represent 19% of the current rig fleet—or looking at it another way,
China needs to buy 40 rigs every year from 2013 onwards.
Should China get to the 100 Bcm target the additional rigs would represent 36% of the
current fleet, implying China would need to buy 75 rigs every year from 2013 onwards.
China will need over 40% additional rigs on top of the current fleet, under a bearish
scenario, in which we use our low case IP rate assumption to get to the 60 Bcm target.
Under this scenario, China will need to buy an additional 640 rigs for shale drillings by
2020.
On the other hand, only 10% additional rigs are required if we use our high case IP
rate for producing 60 Bcm by 2020. Under this scenario, China will only need an additional
140 rigs.



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Figure 31: Number of additional land rigs required in China by 2020 under our production
scenarios
 (No. of rigs)
1,200


1,000


  800


  600


  400


  200


      -
                        Low Case                                Base Case                      High Case

                                                60bcm scenario      100bcm scenario

Source: Credit Suisse estimates

If we then assume that 10% of the current rig fleet (i.e., 150 rigs out of the 1,500) can be
converted into shale drillings, China will need only 10% additional rigs under our base
case, as shown in Figure 33.

Figure 32: Number of additional land rigs required as a %                             Figure 33: Number of additional land rigs required as a %
of current rig fleet                                                                  of current rig fleet (assuming 10% conversion from
                                                                                      existing fleet)

80%                                                                                   80%

70%                                                                                   70%

60%                                                                                   60%

50%                                                                                   50%

40%                                                                                   40%

30%                                                                                   30%

20%                                                                                   20%

10%                                                                                   10%

 0%                                                                                    0%
                 Low Case                Base Case                High Case                      Low Case                Base Case              High Case

                            60bcm scenario    100bcm scenario                                               60bcm scenario    100bcm scenario

Source: Credit Suisse estimates                                                       Source: Credit Suisse estimates

Horizontal wells
We understand that China had drilled 63 wells up to April 2012. Of that, 58 were shale gas
and five shale oil wells, with 15 of these being horizontal wells. In 2011, 18 shale wells
were drilled in China—of which 16 were vertical and two horizontal. This compares to
16,100 horizontal wells drilled in the US in 2011, according to Spears & Associates.




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Figure 34: US—number of horizontal wells drilled
 (wells)
  20,000

  18,000

  16,000

  14,000

  12,000

  10,000

   8,000

   6,000

   4,000

   2,000

       -
                      2009                   2010                2011                        2012E
Source: Spears & Associates

Pressure pumps
An estimate of 1 mn HP currently in China, compared to 14 mn in the US. Given the
early stage of frac technology, there is no official estimate in terms of fracturing
horsepower (HP) in China. Our understanding from industry experts suggests that there is
around 1,000,000 HP of pressure pump in China. This compares to about 14,000,000 HP
in the US currently, according to Spears & Associates. In China, to drill one horizontal frac
well, one would roughly need 1,000 horsepower of pressure pump equipment, according
to industry experts.
We estimate China will need 4.2 mn additional HP to reach the low-end of the target.
By using data in the US, we calculate that roughly 12,000 cm (340 cf) of shale gas is
produced per horsepower. Applying this to China’s production target in 2020, and assume
that the current 1 mn HP capacity is taken up for other unconventional gas drillings, we
estimate China will need 4.2 mn additional HP to achieve 60 Bcm, and 7.1 mn HP to
achieve 100 Bcm.

Figure 35: US—fracturing horsepower (HP) capacity                       Figure 36: Fracturing horsepower (HP) capacity in China
                                                                        vs US 2011 frac capacity
   (Frac HP)                                                             (million frac HP)
18,000,000                                                                16

16,000,000                                                                14

14,000,000
                                                                          12
12,000,000
                                                                          10
10,000,000
                                                                           8
 8,000,000
                                                                           6
 6,000,000
                                                                           4
 4,000,000

 2,000,000                                                                 2

           -                                                               -
               2006     2007   2008   2009     2010   2011   2012E              China - low shale China - high shale           US - 2011
Source: Spears & Associates                                             Source: Spears & Associates, Credit Suisse estimates




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Water
A multi-stage horizontal well requires 4-5 mn gallons of water. This water
consumption amount is consistent between China and the US, based on our conversation
with industry experts and our US E&P team.

Figure 37: China—water usage by segment                                        Figure 38: Total water consumption under our production
                                                                               scenarios, as a % of 2010 China industrial water supply
 (mn gallons)
  16,000,000                                                                   0.7%

  14,000,000                                                                   0.6%

  12,000,000                                                                   0.5%
  10,000,000
                                                                               0.4%
   8,000,000
                                                                               0.3%
   6,000,000
                                                                               0.2%
   4,000,000

   2,000,000                                                                   0.1%

           -                                                                   0.0%
                2003   2004    2005   2006         2007   2008   2009   2010              Low Case              Base Case               High Case

                        Residential   Industrial      Others                                         60bcm scenario   100bcm scenario

Source: CEIC, Credit Suisse estimates                                          Source: CEIC, Credit Suisse estimates

It appears that water consumption from fracing takes up only a small portion of
China water supply. We compare estimated water consumption by 2020, by applying a 5
mn gallons per well assumption—it appears that by then, shale will only take up less than
1% of industrial water supply.
China’s prospective shale gas basins are in low precipitation areas. By looking at the
precipitation map in China, of the three major prospective shale gas basins, only Sichuan
is under a mild precipitation area, while Tarim and Ordos basins are in a low rainfall area.
Securing water supply for multi-stage fracturing could be a challenge once China’s shale
gas production ramps up rapidly towards the latter part of this decade.




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Figure 39: China’s precipitation map and three major prospective shale gas basins




                              Tarim
                              basin
                                                                        Ordos
                                                                        basin




                                                                   Sichuan
                                                                    basin
       In millimeter In inches

       > 1500        > 59.1

       1000-1500     39.4-59.1

       500-1000      19.7-39.4

       100-500       3.9-19.7

       0-100         0-3.9




Source: weather.com.cn

Globally social/environmental concerns on unconventional gas developments are
rising: Several US states have banned fracing; in France, the practice has also been
banned and in the UK, there has been a major public concern to initial drilling carried out
in the North West of the country being linked to increased seismic activity in that area. In
Australia, there has been a significant pushback between certain CBM developers and the
farming community, both around the use of water as well as commercial terms for land
access to place well pads/drill wells. In China, given the lack of shale wells drilled, the
degree of public concern is unclear. We would not be surprised that national public
concerns regarding water quality and usage, and CO2 emissions are less likely at least in
the initial phase of shale gas exploration in China, but local concerns may be real and
important.




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Pipeline reach
Figure 40: China vs US gas kilometre per million population
 (km per mn population)
1,600

1,400

1,200

1,000

  800

  600

  400

  200

    -
             China - Now      China - 2015   China - 2020                      US today

Source: Credit Suisse estimates

Pipeline reach will be an issue in China: Currently, China’s gas pipeline reach is
approx. 50,000 kilometres, of which 35,000 km is primary distribution.. In contrast, in the
US there are some 400,000 kilometres of gas pipeline. The current plan to extend China’s
gas pipeline reach is to achieve 100,000 km coverage by 2015 as per the NDRC, and
150,000 km by 2020, in our assumption. At which point China would have only 38% of the
current US gas pipeline reach.

Figure 41: China versus US gas pipeline reach
 ('000 km)
 450

  400

  350

  300

  250

  200

  150

  100

   50

    -
             China - Now      China - 2015   China - 2020                     US today

Source: Credit Suisse estimates

Chinese Bcm per kilometre of pipeline could exceed the US: At the moment the
implied amount of shale gas to be carried per 1,000 km in China is very low. Interestingly,
if China hits the 60 Bcm target by 2020, it would carry a similar quantity of shale per 1,000
km as the US currently does, but would exceed the US by 50% if the 100 Bcm upper
target is achieved that year.




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Figure 42: China vs the US—Bcm carried per 1,000 km pipeline capacity
  (Bcm per '000km pipeline capacity)
  70%


  60%


  50%


  40%


  30%


  20%


  10%


   0%
            China - Now         China - 2015   China - 2020 (Low) China - 2020 (High)   US

Source: Credit Suisse estimates

Sub surface experience likely the largest challenge currently: With less than 100
shale wells drilled (versus a cumulative 35,000 shale wells in the US over the past three
years), Chinese/foreign developers have virtually no experience drilling the Chinese shale
resource base.




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The ‘to-buy’ list
To summarise, we estimate that in order to achieve the low-end of China’s shale gas
production target of 60 Bcm, China will need to drill 6,800 wells in aggregate or 1,600
wells p.a. by 2020. With that China will need to buy 280 rigs under our base case
assumption (4 mmcfd IP rate) and 1.6 mn HP of pressure pump. This compares to less
than 10 shale-specific rigs and 1,000,000 HP currently.

Figure 43: China’s ‘to-buy’ list under the 60 Bcm scenario
                                                               60 Bcm scenario
                                                             Low       Base                  High                   Current
Cumulative no. of wells by 2020                            12,800          6,800             3,400                      15
No. of additional rigs required                               643            286               143                     <10
Additional horsepower required                                  -      4,290,000                 -              ~1,000,000
Source: Credit Suisse estimates

And if China’s shale gas programme ramps up significantly and hits the 100 bcm target,
China will need to drill 10,000 wells in aggregate or 3,000 wells p.a. by 2020. In that
scenario, China will need to buy 540 rigs under our base case assumption (4 mmcfd IP
rate) and 3 mn HP of pressure pump.

Figure 44: China’s ‘to-buy’ list under the 100 Bcm scenario
                                                               100 Bcm scenario
                                                             Low        Base                 High                   Current
Cumulative no. of wells by 2020                            20,300         10,100             5,100                      15
No. of additional rigs required                             1,089            536               250                     <10
Additional horsepower required                                  -      7,100,000                 -              ~1,000,000
Source: Credit Suisse estimates

If we take our base case assumption under both the target scenarios, we estimate the total
shale gas oilfield services spend through to 2020 would be US$58 bn under the 60 bcm
case. And it will be up to US$87 bn under the 100 Bcm scenario.

Figure 45: CS estimation of the total shale gas OFS spend up to 2020
                                                            Shale target
(US$ bn)                                                  60 Bcm 100 Bcm Assumptions
Total horizontal drilling/fracturing spend                  47.8             69.4 US$8 mn per horizontal well
Total land rig spend                                         2.3              4.3 US$8 mn (Rmb50 mn) per land rig
Total pressure pump spend                                    4.3              7.1 US$1,000 per horsepower
Grand total                                                 54.4             80.8
Source: Credit Suisse estimates

Figure 46: China’s total shale OFS spend under the 60                                Figure 47: China’s total shale OFS spend under the 100
Bcm scenario, using our base case assumption                                         Bcm scenario, using our base case assumption
 (US$ bn)                                                                               (US$ bn)
 60                                                                                    80
                                                                                                        69.4
                  47.8                                                                 70
 50
                                                                                       60
 40
                                                                                       50
 30                                                                                    40

 20                                                                                    30
                                                                                       20
 10                                                              4.3                                                                                 7.1
                                          2.3                                          10                                       4.3
   -                                                                                     -
             Total horizontal      Total land rig spend     Total pressure                         Total horizontal      Total land rig spend   Total pressure
       drilling/fracturing spend                             pump spend                      drilling/fracturing spend                           pump spend
Source: Credit Suisse estimates                                                      Source: Credit Suisse estimates




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Conclusion: Evolution or revolution?
It is (far) too early to conclude China will be the next big province—but don’t write
off the targets yet: Raw prospectivity remains strong in China, with the recoverable
estimate as large as in the US. However, while the US shale gas revolution was driven by
free market economics, China is driven by a top-down focus to exploit domestic gas
resources from the energy security perspective, as well as improved input economics.
Even if the 60-100 Bcm production target by 2020 is a clear stretch target (range), the US
experience suggests it is not completely unrealistic; the key challenge appears to be how
quickly China can get through the ‘learning’ phase and move to scale production. With
exploration and exploitation risk in front of the production ramp, we conclude the early
‘winners’ of the China shale theme will be equipment suppliers and service entities.




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Stock list
Figure 48: China’s shale gas value chain



            Upstream                    Equipment/materials                      Oilfield Service                        Mid/downstream
             player                          supplier                                provider                                operator



     PetroChina (857 HK)                Land rigs:                              Anton Oil (3337 HK)                 Water purification:
     Sinopec (386 HK)                      Honghua (196 HK)                     SPT Energy (1251 HK)                   Aegis (not listed)
     CNOOC (883 HK)                        BOMCO (not listed)                   Hilong (1623 HK)
     Shell (RDSa.L)                        Lanzhou Lanshi (not listed)          COSL (2883 HK)
     Chevron (CVX)                         RG Petro Machinery (not listed)      Sinopec Engineering                 CNG/LNG transportation:
                                                                                (not listed)                          CIMC Enric (3899 HK)
                                        Pressure pumps:                         Orion Energy (not listed)
                                           Yantai Jereh (002353 SZ)                                                 NGV:
                                                                                                                      Weichai-Westport (not listed)
                                        Proppants:                                                                    Kunlun Energy (135 HK)
                                           Carbo (CRR US)
                                           Saint-Gobain (SGO FP)
                                           Yixing Orient Petroleum Proppant
                                           (not listed)
                                           ENTI (not listed)

Source: Credit Suisse estimates

Figure 49: China’s shale gas value chain—valuation comps
                                               Price      TP Mkt cap 6M trading vol     P/E (x)         EV/EBITDA (x)    P/B (x)   ROE (%)        Net D/E
Company              Ticker       FX    Rat.   LC/sh   LC/sh US$ mn           US$ mn   12E    13E         12E     13E      11A     12E    13E        11A
Upstream players
PetroChina           0857.HK      HK$    O     10.46   13.30 246,707              98   10.2   10.9         5.2     5.1     1.57 14.1% 12.2%          26%
Sinopec              0386.HK      HK$    N      7.00    7.05   78,213             82    8.1   14.8         4.6     5.6     1.05 12.1%     6.5%       44%
CNOOC                0883.HK      HK$    O     14.98   18.30   86,188            119    6.5       6.3      3.4     3.2     2.09 25.7% 22.1%      Net cash


Royal Dutch Shell    RDSa.L        £     N     2,131   2,530   85,395            113    4.5       4.2      2.3     2.1     0.78 15.4% 15.1%          15%
Chevron              CVX          US$    O     100.0   130.0 198,265             209    7.0       6.2      2.9     2.7     1.62 20.3% 19.6%      Net cash


Oilfield Service provider
Anton Oil            3337.HK      HK$   NR      1.16       -     317            0.61   10.8       7.2      4.7     3.5     1.21    7.3% 12.9%    Net cash
SPT Energy           1251.HK      HK$   NR      1.34       -     231            0.79    5.4       4.0      2.9     2.3     1.69 23.9% 24.1%      Net cash
Hilong               1623.HK      HK$   NR      1.85       -     349                    5.5       4.7      3.5     3.1     1.19 17.5% 17.9%          21%
COSL                 2883.HK      HK$    O     11.08   14.00    6,419           12.9    8.7       7.9      6.8     6.2     1.44 15.1% 14.8%          76%


Schlumberger         SLB          US$   NR     62.56       -   83,427            186   14.7   12.0         7.8     6.7     2.67 18.0% 20.2%          16%
Haliburton            HAL         US$   NR     28.35       -   26,167            116    8.6       7.7      4.4     3.9     1.98 20.7% 20.3%          16%


Lang rig manufacturer
Honghua              0196.HK      HK$   NR      1.25       -     519            0.46    7.6       5.5      3.4     2.7     0.81    8.6% 10.5%    Net cash


Pressure pump manufacturer
Yantai Jereh         002353.SZ   RMB    NR     45.87       -    3,310           12.9   35.1   25.1        26.0   18.3      8.18 20.2% 22.6%      Net cash


Proppants supplier
Carbo                CRR          US$   NR     75.70       -    1,748             71   13.9   11.2         7.2     5.7     2.77 17.0% 17.9%      Net cash
St. Gobain           SGOB.PA       €     O     27.73   37.00   11,842             61    8.6       7.6      4.6     4.3     0.82    9.0%   9.8%       44%
Note: O = OUTPERFORM, N = NEUTRAL, U = UNDERPERFORM, NR = NOT RATED
Source: I/B/E/S, company data, Credit Suisse estimates




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China’s oilfield services industry is dominated by the non-listed arms of large SOEs
(CNPC, Sinopec Group and CNOOC parent), which in aggregate constitute over 80% of
the market share. The rest of the market is made up of 1,000+ independent oilfield service
providers, and only a handful of them are listed, with each player taking up less than 1% of
the market share.
Below, we identify a few listed leading private oilfield service and equipment providers,
who are already involved in/are ready to participate in the shale gas theme. We also
summarise the shale exposure of the big three Chinese oils so far.

Anton Oil (3337.HK)
■   Provided multi-stage fracturing service to CNPC’s shale gas horizontal well in Sichuan
    in 2011.
■   Secured one horizontal well fracturing contract for Sinopec in 2012.
Anton Oil is a leading independent oilfield service provider in China. The company is one
of the first independent oilfield service providers that went public, having been listed in
Hong Kong since 2007. Anton Oil provides multi-stage fracturing services to its customers,
along with other services like well completion and drilling technology. In 2011, Anton Oil
completed one multi-stage fracturing service to CNPC’s shale gas horizontal well in
Sichuan which was one of the two shale gas horizontal wells drilled in China last year.

SPT Energy (1251.HK)
■   Provided multi-stage fracturing service to Shell JV’s shale gas horizontal well in
    Sichuan in 2011.
■   Completed one horizontal well fracturing operation for CNPC in April 2012.
SPT Energy is another leading independent oilfield service provider in China which went
public in December 2011. Similar to Anton Oil, SPT Energy provides multi-stage fracturing
services to its customers, along with other services like well completion and downhole
operations. In 2011, SPT Energy completed one multi-stage fracturing service to CNPC’s
shale gas horizontal well in Sichuan—it being the other shale gas horizontal wells drilled in
China last year.

Figure 50: The two leading OFS players in shale so far—Anton Oil & SPT Energy
                                                                                 Anton Oil                                       SPT Energy
                                                                                 (3337 HK)                                         (1251 HK)
Market Cap                   US$ mn                                                     317                                               231
Trading value                US$ mn                                                    0.61                                              0.79
Trading volume               mn                                                        4.20                                              4.53
Revenue – 2011               Rmb mn                                                 1,258.9                                           1,321.3
EBIT – 2011                  Rmb mn                                                   174.9                                             275.6
Net profit – 2011            Rmb mn                                                  *109.3                                             181.8
Shale exposure in 2011                      Provided fracking service to CNPC’s shale gas       Provided fracking service to Shell’s shale gas
                                                                 horizontal well in Sichuan                        horizontal well in Sichuan
Shale exposure in 2012 YTD                   1 fracking horizontal well contract for Sinopec   Completed 1 horizontal well fracking operation
                                                                                        YTD                           for CNPC in April 2012
*Note: added back one-off impairment loss in 2011
Source: Company data

Honghua (0196.HK)
■   Sold three shale rigs to Shell JV in 2011—for shale exploration in Sichuan
Honghua is the largest listed land rig manufacturer in China and one of the largest globally
in terms of capacity—120 rigs per year. A majority of Honghua’s land rig production is
made for conventional oil and gas drillings, but the company commented that it has the



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technology and expertise to produce rigs that are for shale gas exploration/drilling. In 2011,
Honghua sold three rigs with shale gas specifications to Shell JV’s exploration programme
in Sichuan.

Yantai Jereh (002353.SZ)
■   Sold three shale rigs to Shell JV in 2011—for shale exploration in Sichuan
Yantai Jereh is one of the leading oilfield service equipment provider listed in the A-share
market. The company is an advanced pressure pump manufacturer domestically. Our
understanding from industry players suggests that Jereh’s pressure pumps are 15-30%
cheaper than international majors’ (Schlumberger, Halliburton) with comparable specs and
quality, and also has a comparative advantage of after-sales service locally in China.

COSL (2883.HK)
■   Moved onshore after 30+ years of operating in offshore; currently with CBM exposure
    but also looking into shale opportunities
Over COSL’s 30+ years of history, the company has been solely focused on providing rig
leasing and oilfield services in offshore regions. Since 2011, the company has started to
set foot onshore, eyeing the domestic unconventional gas opportunity in the next decade.
Within unconventional gas, COSL has exposure in CBM but not shale—the company
provided well services to a number of CBM projects in China and Australia last year. Our
understanding is that CNOOC’s parent is likely to utilise COSL to provide oilfield service to
its subsidiary CUCBM, which CNOOC’s parent acquired in 2010. According to
management, COSL will also look into shale gas oilfield service going forward given the
focus by the government. One of the key advantages for COSL vs other independent OFS
player, we believe, is its relationship with CNOOC’s parent—whereby when CNOOC’s
parent starts accelerating shale gas exploration/development in the next three to five years,
COSL is well positioned for this.

Hilong (1623.HK)
■   Manufacturer of high-strength drill pipes for shale gas exploration
Hilong is more of an oilfield service equipment provider, with its drill pipes and coating
materials business contributing close to 80% of total revenue in 2011. One of Hilong’s
products are specific high-strength drill pipes for shale gas exploration. The company also
provides oilfield services to upstream players, with its focus mainly on overseas markets
such as West Africa, the Middle East and Ecuador.

PetroChina (0857.HK)
PetroChina is currently working with Shell in the Fushan-Yongchuan block in Sichuan,
where the two are in the process of establishing a PSC for the shale development. While it
appears that PetroChina is having an early start in CBM exploration and production among
unconventional gas, it is anticipated that the company will bid in the MLR’s second shale
block auction later this year, and will leverage on its conventional oil and gas infrastructure
and expertise to excel shale exploration.

Sinopec (0386.HK)
Sinopec announced in June 2012 that it has kick-started development of its shale gas
project in the Peiling block in Sichuan, aiming to produce 0.3-0.5 Bcm of shale gas by the
end of 2012 and 1 Bcm by 2013. Sinopec has budgeted Rmb78 bn for upstream capex
spend in 2012, an increase of 33% YoY and commented that a bulk of that will be towards
unconventional gas development. The company is also reportedly working with BP and
Total on other shale development blocks. Moreover, Sinopec Group has an investment in




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Repsol Brazil, of which it has a stake in Argentina shale; it is believed that Sinopec will
leverage off this relationship for domestic shale development.

CNOOC (0883.HK)
CNOOC is working with Shell in Anhui—the two have signed a joint study agreement (JSA)
that will commit Shell to providing technical assistance for CNOOC to explore shale gas in
the province. On top of that CNOOC has foreign exposure in shale, having made
acquisitions in Eagle Ford and Niobrara’s assets in the US over the past two years. We
believe CNOOC is likely to utilise the expertise it learnt in the US and leverage it on to its
exploration and development domestically.




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Companies Mentioned (Price as of 22 Jun 12)
Anton Oilfield Services Group (3337.HK, HK$1.16, NOT RATED)
BP (BP.L, 412.0 p, OUTPERFORM, TP 540.0 p)
Carbo Ceramics (CRR, $75.70, NOT RATED)
Chevron Corp. (CVX, $100.02, OUTPERFORM, TP $130.00)
China Oilfield Services Ltd (2883.HK, HK$11.08, OUTPERFORM, TP HK$14.00)
China Petroleum & Chemical Corporation - H (0386.HK, HK$7.00, NEUTRAL, TP HK$7.05)
CIMC Enric (3899.HK, HK$4.11, NOT RATED)
CNOOC Ltd (0883.HK, HK$14.98, OUTPERFORM, TP HK$18.30)
ConocoPhillips (COP, $52.76, NEUTRAL, TP $67.00)
ExxonMobil Corporation (XOM, $82.09, NEUTRAL, TP $91.00)
Halliburton (HAL, $28.35, NOT RATED)
Hilong Holdings (1623.HK, HK$1.85, NOT RATED)
Honghua Group Ltd (0196.HK, HK$1.25, NOT RATED)
Kunlun Energy (0135.HK, HK$12.66, NOT RATED)
PetroChina (0857.HK, HK$10.46, OUTPERFORM, TP HK$13.30)
Royal Dutch Shell plc (RDSa.L, 2,131 p, NEUTRAL, TP 2,530 p)
Saint-Gobain (SGOB.PA, Eu27.73, OUTPERFORM, TP Eu37.00)
Schlumberger (SLB, $62.56, NOT RATED)
SPT Energy (1251.HK, HK$1.34, NOT RATED)
Statoil (STL.OL, NKr137.50, UNDERPERFORM, TP NKr165.00)
Total (TOTF.PA, Eu34.84, NEUTRAL, TP Eu43.50)
Yantai Jereh (002353.SZ, Rmb45.87, NOT RATED)


                                                        Disclosure Appendix
Important Global Disclosures
David Hewitt & Horace Tse each certify, with respect to the companies or securities that he or she analyzes, that (1) the views expressed in this
report accurately reflect his or her personal views about all of the subject companies and securities and (2) no part of his or her compensation was,
is or will be directly or indirectly related to the specific recommendations or views expressed in this report.
The analyst(s) responsible for preparing this research report received compensation that is based upon various factors including Credit Suisse's total
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Analysts’ stock ratings are defined as follows:
Outperform (O): The stock’s total return is expected to outperform the relevant benchmark* by at least 10-15% (or more, depending on perceived
risk) over the next 12 months.
Neutral (N): The stock’s total return is expected to be in line with the relevant benchmark* (range of ±10-15%) over the next 12 months.
Underperform (U): The stock’s total return is expected to underperform the relevant benchmark* by 10-15% or more over the next 12 months.
*Relevant benchmark by region: As of 29th May 2009, Australia, New Zealand, U.S. and Canadian ratings are based on (1) a stock’s absolute total
return potential to its current share price and (2) the relative attractiveness of a stock’s total return potential within an analyst’s coverage universe**,
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Some U.S. and Canadian ratings may fall outside the absolute total return ranges defined above, depending on market conditions and industry
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the relevant country or regional benchmark; for European stocks, ratings are based on a stock’s total return relative to the analyst's coverage
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7.5% threshold replace the 10-15% level in the Outperform and Underperform stock rating definitions, respectively. The 15% and 7.5% thresholds
replace the +10-15% and -10-15% levels in the Neutral stock rating definition, respectively.
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Volatility Indicator [V]: A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24
months or the analyst expects significant volatility going forward.
Analysts’ coverage universe weightings are distinct from analysts’ stock ratings and are based on the expected
performance of an analyst’s coverage universe* versus the relevant broad market benchmark**:
Overweight: Industry expected to outperform the relevant broad market benchmark over the next 12 months.
Market Weight: Industry expected to perform in-line with the relevant broad market benchmark over the next 12 months.
Underweight: Industry expected to underperform the relevant broad market benchmark over the next 12 months.
*An analyst’s coverage universe consists of all companies covered by the analyst within the relevant sector.
**The broad market benchmark is based on the expected return of the local market index (e.g., the S&P 500 in the U.S.) over the next 12 months.




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Credit Suisse’s distribution of stock ratings (and banking clients) is:
                                                 Global Ratings Distribution
                        Outperform/Buy*        48%      (59% banking clients)
                        Neutral/Hold*          41%      (56% banking clients)
                        Underperform/Sell*      9%      (51% banking clients)
                        Restricted              2%
*For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, and Underperform most closely correspond to Buy,
Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer to definitions above.) An investor's
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Disclaimers continue on next page.




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                                                                                                                                                                     Asia Pacific/China
                                                                                                                                                                     Equity Research




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