Coal is China's biggest energy source. Most is burned directly, resulting in low energy utilization and heavy pollution.

With gasification, instead of being burned, coal is broken down into its basic molecules, which undergo other chemical reactions to form synthetic gas, methanol and other liquid fuels.

Most companies interested in coal gasification have their eye on methanol, an important ingredient in industrial products like plastics. In some parts of China, it is added to gasoline to improve engine performance.

Unsurprisingly, the big players in the gasification field are coal miners. Yanzhou Coal plans to open a 500,000-tonne methanol plant in Shaanxi in about two years.

China International Capital predicts demand for methanol in China will reach 5.72 million tonnes this year.

It now imports up to a third of its needs.

Enerchina Holdings, a unit of Sinolink Worldwide, a property-to- energy conglomerate, has ambitions to produce 400,000 to 600,000 tonnes of methanol per year.

"In the past, you could only sell methanol for 1500/1600 yuan per tonne (HK$1,438/HK$1,534) but, with the current high oil prices, you can sell it for up to 2,200 yuan per tonne in many parts of China. At some times, it's been possible to sell it in Guangdong for as much as 2,500 yuan per tonne," according to Yuen Fei, senior vice president of Sinolink.

He said the cost of producing a tonne of methanol using coal gasification technology is about 1,000 to 1,500 yuan, depending on production scale and efficiency.

For coal gasification to be profitable, ex-mine (excluding loading and transport) prices for coal should not exceed 200 yuan per tonne, while oil should be above US$30 (HK$234) per barrel.

Crude oil has stayed above US$50 per barrel all year, and with ex-mine coal prices in the 150 to 200 yuan per tonne range and not expected to climb, coal gasification looks attractive, said Zhang Wenxian, an analyst with Guotai Junan Securities.

"Ex-mine coal prices should start to fall in 2006 or 2007 as they are already at their peak and China's economy is expected to slow in the next few years," he added.

Prospects for methanol prices are less certain on a five-year view because output capacity is growing.

Production is rising faster than demand. Output should grow by at least 20 percent per year in the next three to five years, but demand is increasing at a rate of 8 to 10 percent, according to China International Capital.

"With oversupply a distinct possibility, the success of coal gasification may depend on the export market and China's push for clean energy in the future," Guotai's Zhang said. For instance, Shanxi province, the first in China to develop methanol-powered cars, is one of the few places to have encouraged the use of alternative fuels in taxis. But large-scale use of methanol to replace gasoline is still not considered economically feasible.

"If the central government promotes the mixing of methanol with gasoline, demand growth will be way over 10 percent," Yuen said.

Another obstacle for many smaller players in coal gasification is high initial investment costs.

Yuen reckons production of at least 600,000 tonnes per year is needed to ensure the operational efficiency of a new plant. This would require a total investment of more than 2 billion yuan - more if a gasification plant is combined with other facilities.

One private player, Shandong-based Jiutai Energy, aims to increase its total production capacity by up to six times. It has tied up with America's Rockefeller Foundation and has ambitions to build a one million tonne-a-year dimethyl ether (DME) project in Inner Mongolia. Alternatively, the project could produce up to 1.5 million tonnes per year of methanol.

DME, which can also be derived from the coal gasification process, is used in solvents. It is also a clean- burning alternative to liquefied petroleum gas, diesel fuel and gasoline.

"We have already developed the technology, so the capital cost is lower for the new project," said Jiutai spokesman Wang Yiyong. Jiutai already has a 150,000-tonne DME project that cost about one billion yuan to build.