China’s gas-pricing policy takes bite out of Husky

The Chinese government’s efforts to shift consumption from coal to less polluting natural gas are being felt on the other side of the world by Calgary oil and gas producer Husky Energy Inc.

Husky, controlled by Hong Kong billionaire Li Ka-shing, was pummelled on the stock market after saying it plans to defend the contract for its biggest energy project amid attempts from China to lower natural gas prices for consumers. Its shares fell 9.2 per cent to $15.93 in Toronto on Tuesday, the biggest daily drop in almost six months.

CNOOC Ltd., Husky’s partner in the Liwan development in the South China Sea, warned about lower prices to come, Husky said in releasing its first-quarter earnings results Monday.

Husky threatened to take legal action if it can’t find a solution with the Chinese state-controlled producer, given its Liwan agreement guarantees fixed prices for about another three years.

“The sanctity of the contract has come into question,” Nick Lupick, an analyst at AltaCorp Capital Inc. in Calgary, said in a phone interview Tuesday.

The potential for lower gas prices at Liwan would have a “meaningful impact” on Husky’s financial results, he said.

“It seems like CNOOC is trying to use that legislation as a chance to renegotiate.”

CNOOC buys gas from the Liwan joint venture and resells it to the customer as an agent. A Beijingbased spokeswoman for CNOOC didn’t respond to requests for comment.

The Chinese government adjusted gas prices twice last year to stoke demand and shift consumption from coal, which makes up 64 per cent of the country’s energy mix.

Gas demand expanded 3.3 per cent in 2015, while coal consumption dropped 3.7 per cent, according to the National Bureau of Statistics.

Last week, China’s gas distributors tumbled in Hong Kong trading over regional cuts to transportation fees and prices and the concern that the move may spread to other parts of the country and squeeze margins. While the price cuts last week involved the coastal province of Zhejiang, Husky said CNOOC told it a reduction of prices at Liwan would be tied to market changes in Guangdong, another coastal province farther south.

Complicating matters for Husky is that it’s also disputing lower payments for its Liwan gas after a pipeline outage within the customer’s network earlier this year reduced volumes. A temporary pipeline that was installed can carry less gas, meaning Liwan’s sales are down. Husky is pursuing the full payments owed under a take-orpay contract.

The discussions with CNOOC over lower prices at Liwan also come as Husky negotiates terms for gas offtake from the expansion of Liuhua 29-1, one of three Liwan fields, and could pose a significant risk to those talks, AltaCorp’s Lupick said.

Investors seem to be prematurely discounting the value of the Liwan project even with the lack of visibility on price, according to Menno Hulshof, an analyst at TD Securities Inc. in Calgary. With Tuesday’s share sell-off, the market appears to be pricing in an assumed reduction of about $4 per thousand cubic feet of gas to contract prices beyond 2016, “which in our view is excessively negative,” Hulshof wrote in a research note.

Husky has been bringing in about C$15 per thousand cubic feet at Liwan.