From mid-1970 (when Deng Xiaoping took power) to 2005, some 4.3 million private companies were established in China, making private enterprise the country’s largest economic segment. The private sector accounts for 60 percent of China’s assets, about twice those of the state-owned sector, with about 30.6 percent. Foreign companies own about 9.4 percent.

But private enterprise doesn’t have much opportunity in China’s oil and gas sector. Over the past few years, the government has made clear that it will continue to control oil and gas exploration and oil refining, leaving very limited opportunities for the private sector to share the energy pie. China wants the state-owned companies to control the energy sector, as it considers oil and gas to be strategic commodities with a vital bearing on the country’s economic development. The government also worries that an over-competitive market could lead to natural resource waste and environmental damage.

In the mid-1980s the trend was for employees at state-owned companies to start their own businesses. At the Jilin Oil & Gas Co. – a unit of China’s largest oil and gas producer, China National Petroleum Corp. – some did so, with an eye to re-opening wells that CNPC had abandoned.

Altogether, roughly 100 companies, located mostly in northeastern China’s Jilin province, produce about 40,000 barrels per day, which is the only private production in China. These companies operate in a gray area because they don’t own exploration and production licenses.

In 1994, Shaanxi, where Mao established his revolutionary base, became the only province to allow private oil exploration – a bid to improve the livelihood of the local population. The privatization plan prompted many investors and county governments to set up exploration companies, which have drilled more than 22,700 oil wells.

However, in 2005, Shaanxi’s provincial government overhauled the local oil industry. It regrouped 21 private oil producers and three refineries under the umbrella Shaanxi Yanchang Petroleum Group, which became China’s fourth-largest upstream company, with central government-granted exploration and production licenses (after Petrochina, the listed arm of CNPC, Sinopec, and CNOOC).

The process of rebuilding Yanchang started in 2003, when the local government acquired 4,747 oil wells from 1,300 private oil companies for $248 million.

In addition to holding exploration rights to 100,000 square kilometers in Shaanxi, Yanchang Petroleum also owns licenses in five other provinces and regions covering 93,620 square kilometers.

In 2005, private businessman Gong Jialong made headlines in China’s oil and gas industry, establishing China’s largest private oil company. Gong had high ambitions for developing the Great United Petroleum Holding Company, Ltd. into an international oil company by setting up four outfits to spearhead exploration and production, oil refining, petrochemicals manufacturing, and oil trading. Though his company was announced to big fanfare in the Great Hall of the People, the politically sensitive venue in the heart of Beijing, the government appeared to ignore its existence.

Gong claimed that if China’s private energy companies were allowed to compete, they could boost the country’s overseas crude production to as much as 200 million tons per year over the coming two decades. It was a bold claim, given that China’s current total is some 30 million tons, the result of more than 10 years of exploration and production by CNPC and Sinopec in about 50 overseas fields.

Gong never got the chance to back up his claims. The government refused to issue any licenses for his company to enter the exploration and production, retail, or trading business, and last year, he was arrested on allegations of embezzlement and other economic crimes, all of which cast a shadow over GUPC (see the January issue of ET). From a humble start, GUPC had quickly grown into a company with about $12 billion in operating assets that were concentrated largely in oil refining and retail operations. It remains unclear as to what will become of GUPC.

The government’s control over the upstream business has sparked many protests from the private sector. In 2005, representatives from 200 private oil companies gathered at a forum in Beijing to request the right to invest in China’s exploration and production sector. In response, the government has begun working on regulations that could allow private companies to win field or block ownership by buying shares in listed companies, such as PetroChina, or through other equity market transactions.

The government will eventually introduce a bidding system for domestic companies to acquire upstream acreage for exploration and production, but will continue to allow the state-owned oil companies to control most of the country’s assets.

The Ministry of Land and Resources, the agency responsible for issuing exploration licenses, says the government will also encourage acreage transfers among license holders and geologic data-sharing among the upstream companies. The bidding system won’t shake the position of China’s top three oil companies, PetroChina, Sinopec, and CNOOC, as it appears the government will limit the independents to 15 percent of China’s oil and gas production.

Even if the bidding does open the door for the private sector, most of the prospected acreages have already been licensed to the four legal upstream entities: PetroChina, Sinopec, CNOOC, and Shaanxi Yanchang Petroleum Group.

Downstream, China allows limited private participation in oil refining, retail, and wholesale. As in the upstream business, China’s oil refining industry is in the hands of state-owned PetroChina, which last year processed 110.56 million tons of crude, and Sinopec, which processed 146.32 million tons; independents processed the remaining 49.63 million tons.

For several years, the government policy has been aimed at closing small oil refineries, which are struggling to remain profitable given slumping profit margins and higher crude prices. But now it seems that the government is quietly tolerating their continuing operations, as they provide 16 percent of China’s oil needs. One measure the government uses to control the teapot refineries, located mostly in eastern China’s Shandong province, is to limit their crude supply. This has forced the smaller refiners to seek fuel oil from Russia, South Korea, Venezuela, and the Middle East. These smaller refiners churn out diesel and low-value residues, leaving the bigger, more advanced refiners to run the cracking units and hydrotreaters that produce better-quality diesel and gasoline.