Lasting Losses without End


The Chinese Government has made several upward readjustments in
succession to the domestic market price of oil products in 2006,
but the readjusted price is still far lower than the average
level in the international market. The irrational price
relationship between crude oil and oil products is still serious
and refining companies have suffered even greater losses.
   To avoid huge losses, some local refining companies have
suspended or reduced production one after another. Performance
statements published by listed companies with refining as main
business all reflect sustained huge losses.
    More than half of the year 2006 has already passed. Major
production and operation data for the first half of 2006
published by CNPC and Sinopec show that the price trend of oil
products is the key to the performance of the refining operation
in the two oil giants.

Crude oil processing: increase by a small margin

According to the "Specific Program for the Medium and Long-term
Development of the Refining Industry "issued by the National
Development and Reform Commission, by 2010 the crude oil
processing capacity in the refining industry of China will
increase by more than 90 million t/a.
   In light of such an ambitious program, China is improving the
distribution of the refining industry step by step. Besides, to
ensure oil sources for the refining industry, China is
implementing a crude oil import strategy of multiple import
regions and diversified import modes and transportation modes.
To meet the requirements in increasing crude oil import, China
is also speeding up the construction of transnational crude oil
transmission pipelines and domestic crude oil transmission
pipelines, as well as 250 thousand-300 thousand tons deepwater
terminals in coastal areas.
   According to experts 'analysis, the crude oil processing
amount in China will continue to grow drastically along with the
demand increase. Crude oil processing units and their capacities
will have to be upgraded so as to expand the refining scale.
   CNPC processed 392 million barrels of crude oil in the first
half of 2006, an increase of 3.5% over the same period of 2005.
According to CNPC, refining conducted in the company in the first
half of 2006 was geared to the market demand and main technical
and economic indexes further improved on the basis of the oil
price change.
   As the oil product pricing mechanism has not yet been
perfected in China, however, the refining operation of oil
giants is still in huge losses. Although the Chinese Government
made several upward readjustments to the fuel price, refineries
of CNPC still suffered losses in the first 5 months of 2006.
   The refining capacity in CNPC failed to completely release
before 2006. With the capacity expansion in refineries and the
buyback of subsidiary companies, the refining capacity in CNPC
has expanded relatively.
   Sinopec processed 71.68 million tons of crude oil in the first
half of 2006, an increase of 5.29% over the same period of 2005
and being higher than the national average level.
   An analyst from Orient Securities Company Limited points out
that in terms of refining capacity Sinopec and CNPC hold the
first two places in China. The growth of the crude oil processing
amount was 5.29% in Sinopec, obviously higher than the growth
of 3.5% in CNPC.
   "Guangdong province, the traditional domain of Sinopec, is
becoming a terminal city that domestic and foreign oil companies
are competing for," said the chief analyst from Shenyin & Wanguo
Securities Co., Ltd. "To maintain the market control over
Guangdong province, Sinopec has to supply more oil products to
the region. The crude oil processing amount in both CNPC and
Sinopec has increased. It shows that readjustments to the price
of oil products have borne fruits."
   The price of oil products in China is still much lower than
the price in the international market. The refining operation
of Sinopec has therefore suffered sustained losses. The amount
of losses reached RMB7.88 billion in the first quarter 2006 and
is estimated to be higher in the second quarter. In such a severe
condition, it is indeed not easy for these two companies to have
maintained such a high growth in crude oil processing.
   As the price of oil products in the domestic market is still
much lower than the international price, it is expected that
another two or three upward readjustments will be made before
the end of 2006. According to experts, with the intensive reform
to the price of oil products, the performance of the refining
operation will hopefully improve remarkably in the next one or
two years.

Oil products: the more refining the greater loss

It is a fact known to all that the gross profit in the refining
industry has reduced drastically and the refining operation has
suffered an overall loss in recent years.
   As a matter of fact, the impact of the crude oil price cost
on refining companies in foreign countries is the most prominent.
The price of their oil products however changes with the crude
oil price. When the crude oil price rises, the gross profit and
the overall performance in the refining operation are also
upgraded. Things are different in China. In the
government-controlled oil pricing mechanism, instead of making
profits, the profit rate of the refining operation in oil
companies reduces drastically.
    In the first half of 2006, the output of oil products in
Sinopec was stable. The output of diesel increased to 28.32
million tons whereas the output of gasoline and kerosene dropped
to 11.23 million tons and 3.18 million tons respectively.
   According to an expert from Sinopec, as diesel has a brisk
demand, it is justifiable for an output reduction of gasoline
while exercising a moderate control on the gasoline/diesel
ratio.
   If it were not for ensuring the stable supply in the domestic
market, the output of gasoline in Sinopec would have been even
lower. "The crude oil price has increased drastically. It was
US$50 per barrel in the first half of 2005 and reached more than
US$60 per barrel in the first half of 2006. The more refining
is done to gasoline, the greater loss would be suffered."
   Sinopec is still in a difficult position with its refining
operation. The loss in its refining division ran close to RMB20
billion in the first half of 2006. In spite of another price
readjustment conducted in May 2006, refineries are still
suffering losses because the price of gasoline and diesel in the
domestic market is around 21% lower than the average price in
New York, Singapore and Rotterdam.
   The situation with CNPC may be a little better. Dalian
Petrochemical Company Ltd., Daqing Petrochemical Company Ltd.
and Dushanzi Petrochemical Company Ltd. will be renovated to 10
million t/a refineries. Besides, the overall buyback of its
subsidiaries Jilin Chemical Co., Ltd., Jinzhou Petrochemical
Company Ltd. and Liaohe Jinma Oilfield Co., Ltd. has also
accelerated the integrated expansion of the refining operation
in CNPC.
   "The difference in the gasoline output growth in the two
companies is not the result of their co