A deterioration in relations between China and Australia is set to affect the energy sector as oil and gas players brace for an impact on commodity trades, such as the core liquefied natural gas market.

Australia is the world's largest exporter of LNG, and China is a key buyer of its cargoes.

However, relations now appear to be at their lowest ebb since the countries opened diplomatic relations in 1972.

The past few months have seen Chinese energy companies selling down stakes in Australia’s energy projects, pulling out from talks on buying upstream assets and turning to alternative gas supplies.

The row erupted when Australia last year insisted on an international inquiry into the origin of the Covid-19 pandemic, which drew strong criticism from Chinese diplomats and sharp condemnation from Chinese media.

Australia has invited more criticism from China for Canberra's stance on the perceived erosion of democracy in Hong Kong and Australia's decision late last year to sign a defence agreement with Japan.

China has also been concerned by Tasmanian Senator Jackie Lambie's recent call for a boycott of the 2022 Winter Olympics in Beijing.

The diplomatic row has already had an impact on energy business.

An unidentified Chinese company has recently walked away from talks to buy a stake in Woodside's $16 billion Scarborough LNG project in Australia.

Australian independent Santos recently awarded a contract to BW Offshore to deliver a floating production, storage and offloading vessel bound for the US$3.6 billion Barossa gas and condensate project off northern Australia.

BW has issued invitations to bid to a few Asian yards for a subcontract to build the floater.

Well-informed Asian yard sources said that no Chinese yards are being invited to participate in the bid under a rule that not even a single spare part should be sourced from China.

It is rare for international FPSO contractors to skip Chinese yards when it comes to tenders. There are currently 19 FPSO hulls under various stages of fabrication in China, accounting for 75% of the world total.

“The Barossa FPSO should have no Chinese elements,” said one yard source.

Santos had initially awarded the Barossa floater deal to Japanese floater specialist Modec, which has aligned with Chinese yard Dalian Shipbuilding Industry Company for the engineering, procurement and construction job.

ENN Holdings, the largest shareholder of Australian independent Santos, recently sold approximately 107.1 million shares in the Australian company, representing a 5.14% interest.

China's major towngas distributor ENN originally became Santos' largest shareholder in 2016, buying an initial 11.75% stake in the company for US$750 million.

Although Australia is China’s biggest supplier of LNG — accounting for 40% of China’s total imports of 4.97 million tonnes in February — China is now better placed to find alternative suppliers because of a global supply overhang.

In March, Chinese companies closed separate LNG supply deals with Italy’s Eni, French supermajor Total and Qatar Petroleum (QP).

This week, Eni and China’s Zhejiang Energy signed a memorandum of understanding to establish a co-operation framework aimed at facilitating joint initiatives between the two companies across the gas and LNG value chain in China and internationally.

The initiatives identified in the memorandum range from developing long-term LNG supply agreements to joint participation in gas and LNG projects.

In a recent deal with Total, Shanghai-based Shenergy has committed to buying 1.4 million tonnes per annum of LNG from the French player's global portfolio over a 20-year term, while the pair will also team up to market LNG in China.

The two companies have also formed a joint venture, with Shenergy holding 51% and Total 49%, to sell the LNG to customers in Shanghai and throughout the neighboring Yangtze River Delta regions.

China's second-largest energy company, Sinopec, has also signed a supply and purchase agreement with QP to buy 2 million tpa of LNG over a 10-year term, starting in January next year.

Since the first LNG delivery in September 2009, Qatar has supplied China with more than 62 million tonnes of LNG.