China in Kenya: No Appetite for Investment, But a Thirst

UNCLAS SECTION 01 OF 03 NAIROBI 001002

SIPDIS

SENSITIVE

SIPDIS

DEPT FOR AF/E AND AF/EPS

E.O. 12958: N/A
TAGS: ECON ETRD EPET EINV ENRG KE CH
SUBJECT: China in Kenya: No Appetite for Investment, But a Thirst
For Oil

Refs: A. Nairobi 0266, B. Nairobi 0075, C. 06 Beijing 23548, D. 05

Nairobi 3600

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1. (SBU) Summary: Chinese companies appear to have little appetite
for making significant investments in Kenya. One reason: Kenya's
investment climate still leaves a lot to be desired. Another:
Chinese companies probably figure it's easier to export goods
efficiently made in China than it is to set up factories and produce
locally. The one special exception is oil, a sector in which the
state-owned Chinese offshore oil company was last year mysteriously
given 28% of Kenya's total exploration acreage, without even a
commitment to drill in five of the six blocks awarded. The deal was
politically motivated at best (and probably worse),and illustrates
that the Kenyan political leadership is willing to hurt itself in
economic terms at the moment in order to advance its political
relationship with Beijing. End summary.

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Investment? What Investment?
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2. (SBU) When he returned from the Forum for China-Africa
Cooperation (FOCAC) in November 2006, Kenyan President Mwai Kibaki
declared his visit "a milestone...in securing crucial commitments by
the Chinese Government to support development projects in Kenya."
Loan and grant agreements worth perhaps $50 million were signed,
aviation landing rights were granted, and a number of cooperative
agreements in an array of technical fields were concluded. Kenya
will also no doubt benefit significantly from the African regional
initiatives announced by PRC authorities at the FOCAC, including a
doubling of aid to the continent by 2009, and the establishment of
two $5 billion funds to spur trade and investment between China and
Africa (ref C). Meanwhile, Chinese firms are gobbling up big-ticket
infrastructure projects in Kenya, including a major road upgrade in
Nairobi, the World Bank-funded renovation and expansion of the
capital's international airport, and the expansion of the gas
pipeline linking Mombasa and Nairobi.


3. (SBU) Missing from the FOCAC visit and thereafter, however, were
any announcements about blockbuster private sector deals involving
Chinese firms in Kenya. Indeed, in all of the hullabaloo over
China's deepening economic and political ties to Kenya (refs B and
D),few heed the missing link: increased flows of the kind of
private sector-led foreign direct investment (FDI) that would
sustainably boost economic development by generating jobs, income,
tax revenues, and technology transfers.

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Chinese Traders, Not Investors
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4. (SBU) The Director of Research at the Kenya Investment Authority
put it best when he told Econ/C and Econ Specialist in mid-January
that "the Chinese are traders, not investors." The official had
himself just returned from a month-long, PRC government-sponsored
study tour of the China, and he was candidly less-than-impressed.
Chinese rules make it difficult, he said, for Chinese firms to take
foreign exchange out of China for investment in Africa. Most
Chinese investment in Kenya is therefore small-scale, made by
Chinese exporters. These firms are allowed to reinvest overseas any
trading profits made there, but their investments tend to be
small-scale in nature - local trading companies, restaurants, and
the like. These are welcome, but don't have a major impact on
growth, development, or job creation.


5. (SBU) The Chinese DCM in Nairobi acknowledged as much in a late
January conversation with Econ/C. AUCMA, a Chinese owned television
assembly plant in Kenya (see ref D) is making money and producing
500 TV sets a day for the regional market, he said. But he was
otherwise unable to cite a significant example of Chinese investment
in Kenya beyond the special case of oil (see below),about which he
was mum. The Chinese government is trying to encourage greater
private sector investment in Kenya and elsewhere, he said, but
Chinese firms simply aren't very interested. He believes ref D's
estimate of around $100 million in PRC FDI in Kenya is about right,

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but acknowledged that there is no reliable statistical measure of
FDI flows in Kenya.

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But Black Gold is Different
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6. (SBU) The pattern of Chinese indifference to investing in Kenya
is broken in the case of oil and other extractive industries. As
noted ref D, for example, China's Jianchuan Group is believed to
have made a minority investment in a titanium mine project in
Kenya's Kwale District which is owned by Tiomin, a Canadian firm.
Details, however, have not been disclosed and the oft-delayed
project has yet to begin operations.


7. (SBU) On the hydrocarbon front, neither oil nor gas have ever
been discovered in Kenya. But geologists have long believed there
may be significant quantities of one or both in Kenya, both on and
offshore. The PRC, true to its reputation for scouring the globe
for supplies of natural resources, is heavily involved in Kenya's
upstream oil and gas sector. In April, 2006, Kenya awarded
(apparently free-of-charge) six of its 11 available oil exploration
blocks to the Chinese National Offshore Oil Company (CNOOC),a
whopping 28% of all oil exploration acreage in the country. The
deal followed the August 2005 state visit to Beijing by President
Kibaki (ref D),and immediately preceded a reciprocal visit to Kenya
by Chinese President Hu Jintao to Kenya later that same month.


8. (SBU) Terms of the CNOOC deal have not been disclosed, but two
other international firms, Lundin of Sweden and Cepsa of Spain,
protested that they had been unfairly shut out of the bidding for
the blocks, despite having offered better terms than CNOOC. The
Swedish Embassy later confirmed to Econ/C that Lundin and Cepsa had
both offered to move immediately to drilling test wells, whereas
CNOOC agreed to drill on only one of the six blocks for which it
acquired rights. It is believed drilling must take place there
within a year. On the other five blocks, CNOOC was granted "study
agreements" under which it need only undertake tabletop surveys.
The Chinese, as one Nairobi-based oil executive recently said, are
"just sitting on acreage."


9. (SBU) A good Embassy contact and member of the board of the
National Oil Company of Kenya (NOCK) told Econ/C in early December
2006 that the CNOOC deal was either political or corrupt - or both.
NOCK, which is state-owned but has no political clout, knew nothing
about the deal until it was presented to the company as a fait
accompli. It pushed back, but was overridden by the political
leadership. Again, without disclosing terms, this contact said the
deal was not a good one for Kenya because it put too much
exploration acreage into the hands of a single foreign company and
because the other international companies interested in the blocks
would have been more aggressive in drilling test wells.

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Is CNOOC Making a Killing at Kenya's Expense?
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10. (SBU) The Kenyan media reported in mid-February that injury has
been added to insult because CNOOC is now shopping the Kenyan blocks
internationally - in essence on-selling rights which the report
alleges were acquired free of charge from the GOK. The report asks
rhetorically, "Why Kenya agreed to sign such a lopsided deal dishing
out privileges to CNOOC...remains the most intriguing aspect of the
saga." There has been no comment yet from NOCK or the Ministry of
Energy. That the Chinese are seeking to offload exploration acreage
suggests they may be rethinking their position in Kenya - and/or
that their timing is off. The recent failure of Australia's
Woodside Energy to find oil in one of Kenya's most promising
offshore blocks (ref A) has raised doubts about the existence
anywhere in Kenya of oil or gas, and has probably devalued the
blocks held by CNOOC and others.

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Comment
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11. (SBU) That Chinese firms are not interested in investing in
Kenya is in large part explained by the same reason FDI is depressed
generally in Kenya: The investment climate is still poor thanks to
the high costs and risks associated with lousy infrastructure,
insecurity, excessive red tape, and corruption. On top of this,
Chinese firms can usually out-compete other imports and local
products by simply exporting from their low-cost factories in China.
Thus the explosion in Chinese exports to Kenya (ref B). In short,
it makes no business sense for Chinese entrepreneurs to make major
investments in Kenya, no matter how much the Chinese and Kenyan
governments would like them to do so.


12. (SBU) Oil, of course, is another story. Investment there is
very much a strategic issue, driven by governments, and quite
separate from conventional business wisdom. It would appear at this
juncture that in its desire to please its new friend, Kenya's
political leadership gave the Chinese a sweetheart deal in terms of
oil exploration rights. The Chinese were more than happy to accept.
Perhaps this was seen as a wise move in the context of the other
benefits being extended to Kenya by the PRC. The deal appears not
to be in Kenya's best interest in terms of achieving an oil or gas
discovery sooner rather than later. And it has a distinctly bad
odor, thus further damaging Kenya's already-poor image as a good
destination for foreign investment.
Ranneberger