For Chinese companies, investment in Arctic infrastructure offers both opportunities and challenges

By Xie Wenwen (谢雯雯), Caixin Globus - June 17, 2019
A Chinese representative speaks about county’s interests in the Arctic during the Shanghai Arctic Circle Forum (Arctic Circle)

SHANGHAI — “There are almost no roads, no airports, which means that in order to roll out infrastructure projects you have to first build access roads and other transport facilities,” said Scott Minerd, global chief investment officer and founding partner of the investment firm Guggenheim Partners, to describe the infrastructure situation in the Arctic.

Global warming and the melting of Arctic sea ice are making opportunities to develop new trade routes between Asia and Europe, and Asia and North America, possible, and are getting more and more attention from countries and the private sector within and beyond the Arctic region.

The Arctic route is the shortest passage connecting the Pacific Ocean and the Atlantic Ocean, which greatly shortens the trade distance between Asia and Europe and Asia and North America. The Northeast Passage, which the Russians call the Northern Sea Route (NSR), is the shortest sea route connecting northeast Asia and western Europe, traveling between the Barents Sea and the Bering Strait, with the waters north to northwest Europe to the west and Vladivostok to the east. Compared to the traditional Asia-Europe route via the Suez Canal, the northeast route shortens the distance by 30 to 40 percent and the travel time by about 15 days.

According to data from Russia’s Northern Sea Route Administration (NSRA), the number of shipping trips made via the Arctic waterway increased from 1,705 to 2,022 between 2016 and 2018, and the cumulative cargo volume increased from 7.479 million tons to nearly 20.18 million tons. The number of shipping trips made by Russian and Asian shipping companies via the NSR is on the rise. With the acceleration of Arctic sea ice melt and new advances in technology and infrastructure, the Arctic routes will be used more and more often.

Shipping companies that are eyeing a more commercialized and normalized Arctic waterway welcome investment in Arctic infrastructure projects.

COSCO Shipping is currently the only Chinese company that has successfully carried out shipping business via Arctic sea route. Feng Chen, general manager of COSCO Shipping Marketing Center, said at the Arctic Circle Forum held in Shanghai in May that the Arctic environment is harsh and there are not enough ports along the NSR to provide professional shipping services. The ports function as supply stations, rest points and repair points for the ships.

Moreover, Chen believes that the construction of infrastructure such as ports and railways may bring prosperity to local industries, which will have the potential to drive growth in the shipping industry in the future.

According to Chen, between 2013 and 2018, COSCO Ocean carried out 22 Arctic voyages, and then eight times in 2018 alone, marking the busiest year yet. At present, COSCO Shipping has 350 crew members with experience sailing in the Arctic.

Nonetheless, Chen pointed out that COSCO’s NSR business still must confront a short navigation season, dependence on icebreakers and lack of reliable shipping signals.

The serious lack of infrastructure in the Arctic region is one of the most important factors limiting the development of Arctic sea routes. According to Minerd, in order for the NSR to become commercially viable, environmentally sustainable and secure, it will need ports and other infrastructure to support transshipment, refueling, search-and-rescue operations and environmental restoration.

Guggenheim expects that in the next 15 years, the Arctic infrastructure funding gap will reach $1 trillion, covering railways and highways, as well as new energy, maritime and social infrastructure and other projects. Guggenheim expects that potential new energy projects will cost $50 billion, and the maritime infrastructure projects will require $16 billion.

Arctic maritime infrastructure includes hardware facilities such as terminals, waterways, roads or railways connecting ports and icebreakers, as well as software facilities working on issues such as weather, hydrology and sea ice data.

Russia’s Arctic development strategy and China’s participation

The Chinese government issued the Arctic White Paper in January 2018, making a formal and complete statement of China’s Arctic policy for the first time. In the statement, the Chinese government stated that it hopes to rely on the development and use of the NSR to build the Ice Silk Road with all parties, encourage enterprises to participate in the construction of infrastructure along the route, and strengthen the development strategy with the Arctic countries.

Among the Arctic countries, Russia and Finland have proposed improving infrastructure in the Arctic region and sent a welcoming message to the private sector. Of all Arctic countries, Russia currently shows the greatest support for the development of the Arctic and having the highest possibility and potential for cooperation with China. In December 2017, President Vladimir Putin officially invited China to participate in the construction of the Arctic transportation corridor to create the Ice Silk Road.

The development of the Arctic region, in particular the energy sector, is one of Russia’s national strategies. Russia has proposed to increase the country’s share in the world’s LNG market to 20 percent by 2035, from 8 percent in 2018 — much of which would come from Arctic gas fields.

To further assist Arctic energy development, Russia plans to invest in and upgrade a series of infrastructure projects. Among them, Russian gas conglomerate Novatek plans to transfer its LNG transshipment from Norway to its own waters by the end of 2019, and in 2022 it will materialize its plan to establish a permanent LNG transshipment terminal in Murmansk.

In December 2018, Russia announced its plan to invest 5.5 trillion rubles ($85.5 billion) by 2024 and 13.5 trillion rubles by 2050 to support regional infrastructure construction and natural resource development in the Arctic region. The federal government only plans to invest 0.9 trillion rubles, accounting for about 6.67 percent of the planned investment. The remaining 12.6 trillion rubles will need to come from the private sector or foreign investors.

In addition, navigation on the Northern Sea Route under Russian control must be guided by a Russian icebreaker.

Russia has world-leading expertise in Arctic navigation and icebreaker technology. It has the world’s biggest icebreakers, it has more icebreakers than any other country and it is currently the only country with an active nuclear-powered icebreaker.

According to Bjørn Gunnarsson, senior researcher at the Centre for High North Logistics (CHNL), Russian shipping companies account for 70 to 83 percent of the trips made via the NSR between 2016 and 2018. However, this was mostly cabotage shipping.

As of now, China’s participation in infrastructure projects in the Arctic Circle is mainly through cooperation with Russia. The China National Petroleum Corporation and China Silk Road Fund invested in the Yamal LNG project developed by Russia’s Novatek. In addition, not long ago, Novatek announced that the China National Petroleum Corporation and China National Offshore Oil Corporation will also be investing in its second Arctic Circle LNG project, named the Arctic LNG 2 project, with an annual processing capacity of 1.98 million tons.

In addition to investing, seven Chinese manufacturing companies also participated in the modular construction of the Yamal project, including the docking bridge module that a joint venture of China Huanqiu Contracting & Engineering Corporation, a subsidiary of China National Petroleum Corporation, worked on. As for the icebreaker, COSCO Shipping Energy Transportation Co., Ltd., a subsidiary of China COSCO Shipping, joined forces with Mitsui O.S.K. Lines, Ltd. to invest, construct and operate the ARC7 ice-class LNG carriers tailored for the Yamal project.

What should Chinese enterprises pay attention to?

What should Chinese companies pay attention to when evaluating investments in Arctic development and infrastructure projects?

According to Minerd, of Guggenheim Partners, when it comes to critical Arctic development, the public sector usually looks at it over the span of 10 to 20 years, while the private sector focuses more on the project’s investment payback period and internal rate of return.

Minerd pointed out that infrastructure construction in the Arctic is incomplete, with even the basic means of transportation such as roads and railways lacking. Everything needs to start from scratch, which is a big challenge for private sector. For some Arctic countries, Minerd added, military expenditure is actually an important driving force for the construction of port and shipping infrastructure in the Arctic region, and many commercial activities funded by private sector investment can only go smoothly afterwards.

According to Klaus Dodds, a geography professor at the Royal Holloway, University of London, when discussing how infrastructure development in the Arctic can enhance regional connectivity, investors should keep in mind that the level of connectivity can change drastically based on the type of commodity and the proximity of countries involved in the discussion.

The Yamal LNG project, China’s current largest investment in Russia, is often used as a model for Sino-Russian Arctic cooperation and a sign of Russia’s relaxation of foreign capital in upstream energy industry.

But Guo Peiqing, a professor at the School of International Affairs and Public Administration at the Ocean University of China and the founder of the Polar and Ocean Portal website, pointed out that the Yamal project cannot be seen as a typical model for the future of Arctic development. Even though the project was developed by the giant private enterprise Novatek, it was in fact directly promoted by Putin and the federal government. In the long term, it is highly unlikely that direct and active backing from high-level federal officials will become the norm.

Guo said that, at present, China-Russia cooperation in the development of the Arctic is in its early stages, and it needs Russia to propose more specific investment support policies and to build more projects that would prove convincing to the business industry and win over trust from the private sector.

In addition, Guo said, Chinese companies tend to adhere to a more conventional school of thought when it comes to foreign investments, meaning that they are willing to deal with local officials and elites but oblivious to the voice of local stakeholders. Taking as an example successful efforts to halt Chinese investment in a bottling plant that would use water from Lake Baikal (an investment in Russia, but outside the Arctic), Guo argued for more stakeholder engagement, saying that “domestic companies have to wake up, they can’t afford not to want to spend this money.”

In terms of controversies companies may encounter when investing, Chinese companies should research thoroughly before investing, find out what is at the core of the issue and respond with targeted strategies, including risk assessment of target investments, and a good understanding of the background, composition, culture and demand of the opposing parties, NGOs and communities on the ground before heading out.

This article was originally edited by Pei-Hua Yu and published in Chinese by Caixin Globus, a subsidiary of Caixin Media Group specializing in international news. It was translated into English by Hsin Hsuan Sun and is republished here by permission.