The Gas Sales Contract was signed on October 29, 2014 between CNOOC China Limited ("CCL"), a subsidiary CNOOC, and Zhejiang Gas for the sale of gas from LS36-1 on the basis of the fixed price, take or pay gas sale agreements with Zhejiang Gas originally dating back to 2008. The parties to the Gas Sales Contract, which has a 15 year term, are CCL (acting for itself and as agent for Primeline) and Zhejiang Gas.
Zhejiang Province has a total population of approximately 56 million and a land area of 101,800 sq km. It rates as the 4th largest provincial economy within China and has enjoyed double digit annual growth during the last 30 years. 2014 total GDP was RMB 4.015 billion (US$ 647 billion) or approximately US$ 11,914 per capita. Its import and export size and growth are impressive, reaching US$ 355 billion in 2014. Zhejiang Province has almost no primary energy supply except for its hydro-energy potential and more than 90% of its energy needs have to be imported from outside. Energy consumption in Zhejiang Province relies heavily on coal at approximately 61%, then oil at 22.5%, with hydro and nuclear energy at 7% and natural gas at only 2.8%, far below the national level of 4.6% and miniscule compared with an average international level of 24% of the total energy mix.
Zhejiang Province currently has a natural gas grid of circa 1000 km in the northern part of the Province (330 km in 2012) serving the major cities in the area, including Hangzhou, Huzhou, Jiaxing and Shaoxing, and which is fed by the first and second West to East Gas pipelines, together with gas from Sichuan. This gas grid is owned and operated by Zhejiang Gas. In August 2007, following the announcement of the proposed Second West to East Gas Pipeline, the Zhejiang Provincial government decided that a gas grid should be established in the southern part of Zhejiang Province in order to utilise gas from the proposed pipeline. As a result, the gas distribution strategy of Zhejiang Province was changed and Zhejiang Gas is now constructing a gas grid which will extend throughout the Province linking the existing grid to other major cities within Zhejiang Province, including Wenzhou with approximately 600 km being built over the last year This expanded grid has been connected to the Second West to East Gas Pipeline, the Sichuan Gas to East Pipeline constructed by Sinopec in 2010 and to LNG imports which came on stream in 2013. Zhejiang Province is planning to expand its gas grid to 4,100km by 2020 and that the provincial grid will be connected to Wenzhou at some point.
Total natural gas consumption through the Zhejiang provincial grid in 2014 was 6.6 bcm per annum, and after recent consolidation, is expected to grow over the next 10 years with the expansion of the provincial gas grid.
Following finalisation of the plans for the construction of the provincial gas grid by Zhejiang Gas in 2007, it became possible for gas from LS36-1 could eventually be supplied to the proposed provincial gas grid via a connection at Wenzhou.
The fixed price, take or pay predecessor to the Gas Sales Contract was entered into with Zhejiang Gas in 2008 and this formally started the field development.Wenzhou is the closest major city to LS36-1 and is situated on the coast only 140 km away. LS36-1's natural gas is currently solely supplied to the Longwan Power Station which is a combined circle gas turbine power station. Wenzhou's current gas usage apart from the Longwan Power Point is restricted to LPG and small scale locally sourced LNG.
The development of this provincial grid presents a longer term opportunity for Primeline in that, rather than endeavoring to create a greenfield gas market in Wenzhou alone, it may eventually be possible to supply to a rapidly developing market via the grid which is to be established serving all the major cities in the Province and beyond. It is apparent from other natural gas grids in China that once supply has been established then there is consequent expansion of demand.70% of counties and cities in Zhejiang are not linked to the provincial gas grid, hence, the gas market is still immature. With the progressive development of the provincial gas grid and the drive to improve air quality, Primeline expects growth in gas consumption in the medium to long term.
In the short term, gas consumption growth in Zhejiang has slowed and together with the substantial development of long distance pipeline infrastructure and LNG terminals along the East Coast of China, the general economic slowdown and the dramatic drops in oil prices seen in late 2014 to early 2015, has led to an oversupply of gas.
Since February 2015, Zhejiang Gas has tried to seek a very significant reduction of the basic gas price. Primeline has been working with CNOOC and Zhejiang Gas to try to reach an amicable agreement as to the timing and extent of the possible adjustment to the price. Zhejiang Gas has lowered offtake, and made partial payment or nonpayment of various invoices. On April 15, 2016, the China International Economic and Trade Arbitration Commission ("CIETAC") served formal notice of commencement of arbitration proceedings by Primeline against Zhejiang Gas to recover its receivables.