There has been a lot of action within the Chinese oil industry lately and I think this might be a good time to sum all important news into a reasonable summary.

First of all, China has three publicly traded oil companies: Petrochina (PTR), Sinopec (SNP) and CNOOC Ltd. (CEO). These companies went public on the NYSE first, then in Hong Kong and recently in Shanghai. Since Chinavestor is a china stock analyst for the U.S. investors, we'll cover NYSE listed ADRs only. Note: Hong Kong listed H-shares correlate very closely to the NYSE listed ADRs, so basically there is not much difference there. The difference comes in from Shanghai, China's domestic stock market because it is closed for foreigners and thus price distortions occur.

The primary reason why energy, and within energy oil, is so important because there is a lot of money to be made. So let's see how Chinese oil companies do.

Petrochina is China's largest oil producer with significant oil refining capacity. Petrochina has been building and maintaining China's pipe networks; two large east-west pipelines with the third one on the drawing boards. Besides this Petrochina owns about 30% of China's gas stations. So Petrochina is a well diversified oil company.

Sinopec is the refining giant. The company is Asia's largest refiner with some oil production. Actually Sinopec hit a major oil discovery in China in May 2007; the biggest in the decade. The field is located in the Xinjiang Uygur Autonomous Regionand and added a 15% rise to the oil major's market cap the next day the news became public. Still, Sinopec imports about 70 percent of its crude. Sinopec owns more gas stations than Petrochina, thus the company is has the largest retail network in China.

The third large state enterprise is China National Offshore Oil Corporation - CNOOC Ltd - (CEO). This is China's offshore specialist drilling mostly off China's waters but has substantial operations off Indonesia and Nigeria. The company has no significant refining capacity only upstream operations. The company made headlines in the U.S. in July 2005 when they made an unsolicited offer to buy Unocal, a California based U.S. energy resource and development company. The deal was called off after the House of Representatives overwhelmingly approved a non-binding resolution (H Res 344) arguing that CNOOC Ltd's planned acquisition of  U.S. oil producer with significant overseas assets "would threaten to impair the national security of the United States."

After this short intro, let's see how these oil companies have been doing in the last 12 months. As the following screenshot of Google Finance testifies, CNOOC Ltd is up 42%, a sharp contrast to the weak performance of Petrochina and Sinopec. Sinopec lost 24% in one year followed closely by Petrochina's 19% loss. What's going on?

We have to understand China's oil pricing mechanism to shed light to the question. The problem for Petrochina and Sinopec is high crude prices. Chinese authorities fearing escalating inflation put cap on refined gasoline prices. As a result, refined gas and diesel is sold at a discount compared to international prices, due to government mandated retails prices. Simply put, refiners are operating at a loss.

To make matters worse independent refiners, taking up about 25% of China's total refining capacity, stopped production. The result was long lines at the gas stations, rationing fuel - especially diesel. Sinopec and Petrochina slowed down refining by rescheduling refinery updates/shutdowns and other operative measures to produce less off refined products - and losses. Instead they stepped up import of refined gasoline- taking advantage of preferred VAT treatment. As a result, imports of Chinese refined products soared while Chinese refiners were idle or not running at 100% capacity.

Stock markets punished Petrochina and Sinopec for not delivering profits. The pain was felt in China tremendously since Petrochina is the largest cap stock in the Shanghai Stock Exchange and her weak performance contributed significantly to the demise of the Shanghai Composite Index.

Another screw on the oil industry is the windfall tax, introduced as of last summer. This is a progressive tax kicking in above $60/barrel  reaching 40%. With crude oil at record highs above $140s, it's easy to calculate the tax burden Petrochina and CNOOC bears. This tax effectively scalps oil producers off 40% from the top line.

Then came the price increase of gasoline and diesel of 16% and 18%, respectively on June 20th. Stock prices of PTR and SNP soared - just to fall back to where they were before. Markets understood that this less than 20% rise is far from making up for all the losses SNP and PTR suffer from record crude prices.

But this price change resulted in a fundamental change how these companies operate. First of all, they started to fire up all that they got. This basically means more output from refineries and thus increase demand for crude oil.

Sinopec plans to raise crude processing in July at its Qilu plant by a third from June after a regular maintenance, an industry source said on Thursday. This means the refinery will operate at full capacity. Sinopec announced on July 2 that it will cut ethylene output in July by more than 12 percent to boost production of refined oil products and ensure domestic fuel supplies.

Next day Petrochina, China's largest oil importer announced that it is cutting back imports of diesel by 50% from June levels to 200,000 tonnes, as a surprise fuel price hike last month encouraged domestic refiners to raise output.

As the following chart demonstrates, problems with oil will persist. Based on customs figures, China's oil imports have been steadily increasing - blue line.  This is in-line with China's demand for oil, averaging to 4% a year.

Remember, China is the second largest car market after the United States. So China's thirst for oil seems unquenchable at this time. Prepare for high oil prices and for more losses for Petrochina and Sinopec.

Despite SNP and PTR are on a downhill  - CEO holds it stock prices tight. However CEO seems to be overvalued: P/E is high compared to international peers - XOM or BP. Plus CEO has the windfall tax of 40% - so there is not much reason why this company is so valuable - except for the fact that this is the only Chinese oil company that is not in the red due to refining. It seems as if China oil investors found refuge in CNOOC - a bet that is risky but might pay off for some time. Will see how long it lasts...

Professional Resources
FREE reports posted at chinavestor.com/tour.asp	Professional Stock Research: Advanced Membership
Exclusive China Newsletter w/ stock picks: Basic Membership	Portfolios: Conservative and Growth