What’s worse: Too much Chinese investment or not enough?
The energy sector might be about to find out
by Max Fawcett
You don’t usually look to former cabinet ministers to speak truth to power, but that’s exactly what Jim Prentice did this past October. In a speech delivered to an audience in London, England, he warned that Canada’s approach to foreign takeovers by state-owned firms – which has been the geopolitical equivalent of playing hard to get – was discouraging investment in Alberta’s energy sector. He argued that by ostensibly trying to protect the oil sands, the Canadian government may instead be doing damage to it.
In approving the CNOOC acquisition of Nexen, the federal government made it clear it viewed the oil sands as a national priority, and that it wouldn’t allow China to exercise strategic objectives in the pursuit of economic outcomes. Duanjie Chen, a research fellow at the University of Calgary’s School of Public Policy, says “the CNOOC/Nexen deal caused frenzy not only because of its size – by far the largest Chinese single investment overseas – but also because of its premium offer – a price 60-per cent over the market price. Such a premium offer on a record scale was rooted in the Chinese government’s two dated beliefs: that energy security lies in physically owning oil supplies, and that the SOEs [state-owned enterprises] are the backbone of its national economy.” Accordingly, there are people who worry that the priorities of Chinese SOEs like CNOOC don’t line up with those of Albertans, that they would run roughshod over labour, environmental and even economic concerns in the name of some opaquely defined national interest.
Are those suspicions justified? Glen Schmidt, the CEO of Laricina Energy, doesn’t think so. “When it comes to the security risk, I’m never quite sure I understand,” he says. “Alberta has such absolute and total control on resource development – on every aspect of our business, from how it’s operated to how we produce, to the requirement for export permits to the obligations on pace of development.” It is the province, after all, and not the lease holder that owns the underlying resource, and if the government doesn’t approve the way it is being developed it has full recourse to act. “If a producer doesn’t perform, they can lose their lease.
If the provincial government comes to the determination that the leases should be pulled, they can pull them,” Schmidt says.
Likewise, Schmidt says the concerns expressed over how efficient – or inefficient – a Chinese-owned company might be is out of touch with reality. “There are no shortcuts in terms of the operations. If the fear was that if someone was inefficient in their operations they’d attempt to make shortcuts … clearly that’s not allowed, whether it’s on safety or how the environment is managed or the day-to-day operations of that production. It would be no different than if someone suggested that a Chinese airline couldn’t land a plane safely in Vancouver because they might take shortcuts. I don’t think that’s a realistic expectation, and certainly our regulations wouldn’t allow it to occur.”
ATB Financial’s Bruce Edgelow says the notion that Chinese-owned energy companies would operate less competently than domestic ones is not realistic. “For the most part, SOEs are not set up to bring all of their man power into this basin to run those assets,” he says. “They’re buying them because they’re best-in-class assets run by good management teams, and they still want to have those management teams intact.” And, he says, there’s an example of what Chinese investment looks like that’s right under our collective noses. “Look at Husky [a company that is majority-owned and controlled by Chinese billionaire Li Ka-shing]. That’s a firm that hasn’t missed a beat. There’s no hesitation there anymore – we’ve lost sight of the fact that it was one of the earliest ones. How have they done? I think they’ve done quite nicely.”
Even the vaunted cost-of-capital advantage that Chinese SOEs have traditionally enjoyed when compared to their Canadian counterparts may be exaggerated – or, at least, less relevant. The University of Calgary’s Chen notes that Chinese officials have, at long last, acknowledged that its SOEs have traditionally enjoyed cost-of-capital advantages, and that the success of SOEs cannot continue to lean so heavily on them. “China is changing,” she says, noting that the government is now promoting a more diversified ownership structure for SOEs. “This change indicates that we should no longer be counting on the Chinese SOEs to boost our energy investment, but be working harder to improve our profitability to attract a broader range of foreign investors who want to compete in a free-market system.”
Gordon Houlden, the chair of the University of Alberta’s China Institute, thinks these sorts of notions – stereotypes, even – are because the relationship between the two countries is still relatively new. “We’re in the > early stages, and I’m old enough to have lived through stronger opposition to American ownership than you’d find today. If that had been a ConocoPhillips purchase, it wouldn’t have made it past the business news.” But, Houlden says, the apprehension around CNOOC’s bid for Nexen, and the involvement of Chinese SOEs, was as much a political phenomenon as it was an economic one. “I think it was the size of that transaction – the biggest individual commercial deal China has ever done abroad. And Nexen was just at the tipping point where it was large enough that it did alarm a lot of people. But I will say this: in July, when it was released, it was a news story, and even a front page story for a few days. But it really only got momentum, looking back, in September when the House of Commons came back into session and the political machine starting going into action in a more systematic manner.”
He thinks that, in time, Canadians will grow increasingly comfortable with Chinese investments. “Time is a wonderful thing,” he says. “Five years from now, if CNOOC is still running a successful operation – maybe they pour more of their own capital into growing the business, they’ve kept their North American headquarters and checked off every box on their list of commitments made in their application – people will be less dubious.” And they may not have a choice, either. Chen says the shape of Chinese investment will diversify considerably in the years to come, with more capital flowing into a broader range of business lines and being driven more clearly by profit maximization than nation building. As for the SOEs, meanwhile, “I expect [they] will disappear as a dominant force on the global capital market within the next decade or so, if not sooner,” Chen says.
That might sound like an apocalyptic prediction for the energy sector, but ATB’s Bruce Edgelow says there are plenty of companies who are already preparing for a future in which SOEs aren’t the only endgame in town – and that the ones that aren’t preparing should probably start. “It’s not a one-size-fits-all. It’s not a [case of], ‘Let’s put up the for-sale sign and see if someone wants to buy us.’ It’s, ‘We’re going to control our destiny, thank you very much.’ And it may take three or four different strategies to get it done.” He points to Bellatrix Exploration, which had to make multiple trips to Korea before finally consummating a joint venture, as an example of that approach. “They’ve had to work really hard at making sure they have capital available for the future, but you know what? The A-teams are capable of doing that. They’re not looking for the magic pill – they realize that today they need to work harder.”