July 22nd, 2005:

By PATRICK BARTA, KATE LINEBAUGH and JASON DEAN
Staff Reporters of THE WALL STREET JOURNAL
July 22, 2005; Page C14

A possible defeat of Cnooc Ltd.’s bid to acquire Unocal Corp. would do little to blunt the Chinese company’s global ambitions. But it would throw up a major roadblock to Cnooc’s ability to realize them.

The bid for Unocal has highlighted how Cnooc’s management — and Chairman Fu Chengyu, in particular — has tired of the company’s earlier piecemeal approach to overseas expansion: opportunistic acquisitions of minority stakes in oil and natural-gas assets, mostly in Asia.

Cnooc’s predicament comes as Unocal, of El Segundo, Calif., has shown greater financial strength. This could make it easier for its suitors to justify sweetening their bids, a step Chevron Corp. of the U.S. took this week.

Unocal’s improved financials are due to high oil prices and the proposed sale of its Canadian properties for $1.8 billion — about 9% more than investors expected. This month, Unocal said it expected to end the second quarter with $1.8 billion in cash, a 55% jump from six months earlier, when both Chevron and Cnooc began pulling together bids. It also said it expects its debt to be about $2.5 billion, 18% less than six months earlier. Altogether, Unocal has strengthened its financial position by $1.2 billion, combining the additional cash and lower debt level.

Should Cnooc’s bid for Unocal fall through — which still is far from certain — its options for picking up sizable oil and gas assets in Asia will be limited, say analysts and people familiar with the company.

So far, its biggest successful acquisition is the $585 million purchase in 2002 of Spain’s Repsol YPF SA’s gas and oil fields in Indonesia, which made Cnooc Indonesia’s largest offshore oil producer, but did little to raise its global profile.

Many of Asia’s best oil and gas prizes are owned by oil companies in countries that harbor the same desire for long-term energy security as China, and therefore would be reluctant to sell. Meanwhile, attempts to make other big U.S. acquisitions would expose Cnooc to the same political backlash that has battered its Unocal bid.

That doesn’t mean Cnooc would abandon its international ambitions in the face of a possible Unocal defeat. “I think the overall strategy will continue. They want to grow in Asia. They want to be the premier Asian energy company,” says a person close to the company.

Its limited options suggest Cnooc may want to press forward with its effort to win Unocal. The Unocal board’s endorsement Wednesday of a sweetened $17 billion offer from Chevron dealt a substantial blow to Cnooc’s bid, which, though still pricier at $18.5 billion, has been beset by criticism from U.S. politicians.

Yesterday’s move by Beijing to loosen the yuan’s peg to the U.S. dollar could ease some of that political tension.

The Unocal decision represented a broader setback for corporate China’s much-trumpeted international aspirations, coming on the heels of Chinese appliance maker Qingdao Haier Co.’s decision to drop out of the bidding to acquire Maytag Corp., of Newton, Iowa.

Plays for Maytag and Unocal were supposed to herald the arrival of Chinese state-controlled companies in the U.S. But as tests of China’s mergers-and-acquisitions prowess, both Maytag and Unocal have proved perilous.

Cnooc is already exploring other international options, as are most energy-industry companies, which have deep pockets from soaring oil prices. Cnooc’s parent, government-owned China National Offshore Oil Corp., is still in negotiations on the Gorgon liquefied natural-gas project in Australia, led, ironically, by Chevron.

The company also is in acquisition talks with another party in a separate deal, say people familiar with the matter who declined to disclose details.

Still, if Cnooc backs down or fails in its Unocal bid, similar opportunities will be hard to come by, analysts say. Other possible targets in the U.S. that have the kind of assets in Asia, or even Africa, that Cnooc wants — such as Murphy Oil Corp. and Marathon Oil Corp. — also have significant operations in the U.S.

That would subject any attempt by Cnooc to acquire these companies to the same national-security review process through the Committee on Foreign Investments in the United States as it would face in a successful Unocal bid.

Other good energy assets in Asia are controlled by international “super majors.” Even if not U.S.-owned, they are loath to give up good prospects when they already are struggling to maintain reserves, analysts say. And national oil companies in countries such as Malaysia — which, like China, are concerned about securing long-term energy sources — are unlikely to sell.

That leaves a handful of regional oil companies or smaller Western independents that Cnooc could acquire, if it wanted to. One oft-cited possibility is Woodside Petroleum Ltd., an Australian oil and gas company with huge gas reserves off the coast of western Australia.

Woodside could be a good fit for Cnooc: Its gas could easily be shipped to China and the company has promising new exploration ventures in Africa and elsewhere.

Cnooc could face stiff competition from other bidders if it tried to grab Woodside, which is 34%-owned by Royal Dutch Shell PLC. Moreover, the same political issues that have hindered Cnooc in the U.S. could be even more pronounced in Australia. Woodside’s reserves are viewed as key strategic assets for Australia’s resource-rich economy. Four years ago, the Australian government blocked an effort by Shell to take over Woodside on the grounds that it wasn’t in the national interest.

“The same would happen with Cnooc,” says David Hurd, an analyst at Deutsche Bank in Hong Kong.

Those challenges highlight the difficult position China’s oil majors are in — and why Unocal is so attractive.

“The fit for them [with Unocal] is perfect,” says Fereidun Fesharaki, a senior fellow at the East-West Center in Honolulu. “What do they want? They want a company that is very established, has good people and has huge Asian oil and gas assets. There is nobody except [Unocal] at this level.”