Why The Energy Revolution Needs China
If we want an example of good long-term resource planning, we might want to look to China. While the first world spent the last decade taking on debt andlevering up dubious assets like dot-com startups and subprimemortgages, then suffering the inevitable fallout, China kept its debtrelatively modest and its currency depressed while it accumulated avast war chest of foreign-exchange reserves–some $2.1 trillion worth asof the end of June, according to the Wall Street Journal.
Now, with a significant risk of the US dollar and other currenciesnot backed by hard resources imploding after the greatest spree ofworldwide money-printing in history, China is prepared (if not anxious)to exchange its potentially worthless forex holdings for hard assetslike oil, metals, and fertilizer.
Theirtiming was perfect. The prices of all key commodities fell sharply inthe financial crisis of 2008, leaving undercapitalized developers andthose with more marginal resources on the ropes and gasping for fundingto continue operations.
China Investment Corp. (CIC), the country’s sovereign-wealth fund,had a $300 billion portfolio at the end of 2008, which is mostly heldin Chinese banks. The fund wisely decided to sit on the sidelinesduring the carnage of last year, spending only $4.8 billion on globalmarkets.
But 2009 has been a different story, as China swooped in to buy upnatural resources at distressed prices. Chairman Lou Jiwei told the Journal last weekend that CIC invested as much in one month this year as it did in all of 2008.
Since December, China has spent $17 billion on foreign energy assets alone.
The point was driven home this week with the announcement thatPetroChina had agreed to make its largest oil sand investment to date,a $1.7 billion, 60% stake in the Athabasca Oil Sands Corp.’s MacKayRiver and Dover projects. China already owns part of several otherCanadian oil and gas developers.
Other small oil sands developers, including UTS Energy Corp. (TSE: UTS), Connacher Oil and Gas Ltd. (TSE: CLL), Oilsands Quest Inc. (AMEX: BQI) and Opti Canada Inc. (TSE: OPC) rose on the news, in speculation that they could be the Red Dragon’s next targets.
At the Reuters China Investment Summit this week, vice-generalmanager of Beijing Sinodrill Yang Junmin said he expected foreignprojects to rise from 20% of the company’s income to 50% within twoyears, and that the company is in talks with miners in Australia,Indonesia and the Philippines for long-term joint venture agreements.
Oil is but one of China’s resource ambitions, however.
China launched a spate of both friendly and hostile overtures formining properties this year, particularly in Australia and Canada.
Australian mining giant Rio Tinto (NYSE: RTP)made headlines when it rebuffed a $19.5 billion offer to buy stakes inits largest iron ore mines by Aluminum Corp. Of China Ltd. (Chinalco)in June, but the latter is now making another run at Rio Tinto for itsbauxite and alumina resources.
Zhang Yansheng, director of China’s Institute of Foreign Trade ofthe National Development and Reform Commission, was sanguine after thefirst deal fell apart, telling news agency Xinhua that otheropportunities await. “With demand and money in hand, why do we worryabout lack of iron ore resources?” he sniffed.
This spring, mining companies owned by the Chinese government boughtlarge interests in Australian mines operated by Lynas Corp. and ArafuraResources, both of which lost their financing in last year’s crisis.
Copper has been another high-priority target, with China’s importsof unwrought copper and products up 118% year-over-year. BNP ParibasFortis estimates the nation now holds more than 800,000 tons of themetal off-market, although imports appear to have cooled off withprices on the London Metals Exchange having risen to a 10-month high. Scotiabank economist Patricia Mohr estimates that Chinese consumption of refined copper will be up 20% on the year.
Imports of nickel, zinc, and other base metals have surged this yearas well, as China seized the opportunity to stockpile them on the cheap.
What really got the world’s attention this week, however, was a report by the New York Timesthat China had virtually cornered the world market for rare earthelements. Half the world’s production of rare earths comes from asingle mine in Inner Mongolia, according to the Times. Chinaproduces 93% of the world’s output of rare earth elements like terbium,dysprosium and neodymium, which are used in key parts–like lasers,magnets and other special materials–of everything from nuclear reactorsto missiles to wind turbines and hybrid car motors.
China has cut back on exports of rare earths over the last threeyears, preferring to husband its resources for the long term. In sodoing, it also secures its place as a top manufacturer of crucialcomponents for the green energy revolution.
On a related note, China has come under considerable criticism for“dumping” solar photovoltaic (PV) panels and components on the worldmarket, cutting panel prices nearly in half over the last year. In aninterview with the Times last week, the chief executive of Chinese solar manufacturer Suntech Power (NYSE: STP) admitted his company was selling solar panels on the American market below its manufacturing and shipping cost.*Suntech, which makes nearly all of its product for an overseas market,is expected to become the world’s number-two supplier of PV cells thisyear, second only to First Solar (NYSE: FSLR).
PV competitors in Germany and the US cried foul over the allegationsand launched investigations to see if there are any prosecutablecharges, while analysts and lawmakers fretted about whether China wouldovertake the West in PV manufacturing.
The fuss seems a bit misbegotten to me. Of course China willovertake us in PV–all the advantage is on their side–and that may be agood thing.
The US is moving at a snail’s pace in supporting renewable energy;our manufacturers are undercapitalized; our political leadership is ahydra without a long-term energy strategy; and we make our renewableenergy businesses live and die on their own instead of subsidizing themdirectly–the minimal federal stimulus spending on research anddevelopment notwithstanding.
By comparison, China turns out more engineers every day; theirmanufacturing and labor costs are super cheap; they capitalize ontechnological advancements very quickly; and the government gives itssolar manufacturers generous direct support.
Besides, China is not just exporting finished PV product to theWest. They’re also exporting solar components and assembling modules inthe US to minimize shipping costs. For example Centron Solar, whichrepresents a consortium of 30 Chinese solar companies, has establisheda sales hub in Eugene, Oregon and plans to set up assembly shops inmultiple US cities. Their strategy offers a triple benefit, by creatingnew jobs, enabling us to deploy more PV at a lower cost, and reducingworldwide petroleum consumption.
Crisis and Opportunity
Resource-rich nations may resent and fear China’s resourceacquisition spree, but would be wise to take a broader view of thesituation.
After all, oil is but the first of the world’s critical resources topeak and go into decline. A century of cheap and easy resourceextraction is behind us, and all fossil fuels and most industrialminerals will reach an intolerable point of diminishing returns overthe next century.
By adopting a protectionist stance, commodity producers can retainownership of their resources and keep more of the revenue at home. Butas strapped for investment capital as they are, and with commodityprices still too depressed to paint a picture of profitability in theshort-to-medium term, the strategy could stifle new development andultimately shortchange their own futures.
Opening their arms to China might be the rest of the world’s besthope for surviving a volatile future of commodity prices even while thecosts of resource extraction continue to rise.
Simply put, taking a decades-long approach to strategic resourceplanning and investment is much easier for a centralized, authoritariangovernment than it is for a democracy that turns over its leadershipand changes tack every few years. China has displayed both the will andthe ability to control its resource future for the long term whileWestern free enterprise concerns itself with beefing up next quarter’sbalance sheet.
I’m not suggesting that investors should pile into Chinese resourceplays at this point. The best part of the shopping spree is probablydone, and there are fresh indications that Chinese banks are nowlooking to rein in lending and spending. Should resource prices gainmaterially from here, China could even decide to unload some of itsstockpile at a nice profit.
But we should forget about “energy independence.” For the world toaccomplish a speedy transition to a renewably-powered electricinfrastructure as we face the end of oil, we may need China much moredesperately than anyone now imagines.
Until next time,
Originally Published in Energy and Capital
*Steven P. Chadima, Vice President, External Affairs for Suntech America, writes with this correction:
I just noticed (and enjoyed) your post today on China’s“energy revolution.” However, you have, I am sure unintentionally,perpetuated an inaccuracy that first appeared in the New York Timeslast week. We worked with the Times to correct the errors, but as youundoubtedly would guess, while the original story appeared on A1, thefollow-up appeared on B4 and was unfortunately missed by most.
But let me correct the record here: we do not sell modules in the USor in any other market below our marginal costs. You can verify this bylooking at our audited financial statements, which show that ouraverage selling price is 17-20% above our costs (i.e., gross margin).The confusion stemmed from Dr. Shi’s statement that our US operatingmargins were negative due to heavy investment in sales and marketingteams, which will result in greater sales in future years. This is ofcourse true of many companies both foreign and domestic as they attemptto bring new products to new markets.
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