Linc said it had agreed to sell the 5 percent stake for $124 million or about A$4.50 a share, which would value the whole group at around A$2.4 billion or more than four times its worth last Friday.
Linc Energy Chief Executive Peter Bond, who owns 40 percent of the company, said the joint venture aims to produce 100,000 barrels a day of diesel for the Chinese market.
The venture with GCL Projects, a unit of Hong Kong-based Golden Concord Holdings, will build plants that will turn gas extracted deep underground from coal into diesel. Their first gas-to-liquids plant is slated to start in 2014.
I think China will become a significant player, Bond told Reuters in an interview.
You've got so many advantages in China in terms of fast-tracking a project, cheap capital, a huge consumer base, a fairly low tax regime, he said.
He said ideally half of Linc's production would be in China within three years.
It will take probably four to five years before it's 50 percent of our income, Bond said.
Linc's Chinese partner, Golden Concord, also owns GCL Poly Energy Holdings <3800.HK>.
Linc first started producing diesel from gas in 2008 at a demonstration plant in Queensland. It has also started producing jet fuel, which it plans to use on a flight across Australia for the first time in May.
Bond said the joint venture's first plant in China would probably be in Inner Mongolia. It aims to start construction later this year.
GCL will first buy a 2.5 percent stake in Linc for A$60 million, assuming it wins approval for the deal from Australia's Foreign Investment Review Board, then buy a further 2.5 percent when the first Chinese plant is up and running.
The deal marked long awaited good news from the company, whose shares have suffered over the past year as planned asset sales have failed to go ahead with buyers put off by worries about Australia's mining and carbon taxes, as well as tight debt markets.
Linc shares soared 38 percent to a high of A$1.475, but that was less than half its high last May. The stock last traded up 26 percent at A$1.35.
Bond said the company planned to hold on to its Teresa coal project and Great Northern coal leases in Queensland for now.
We're still in talks with people, but it's got to be the right joint venture and the right money, Bond said of the Teresa project, where the company is continuing to drill.
That asset is getting better every month, every quarter. We're in a high coal demand period at the moment. So it would be nice to revaluate that for what it's fully worth, he said.
Linc Energy scored a coup in 2010, selling its Galilee coal project to India's Adani Enterprises for $2.7 billion.($1 = 0.9644 Australian dollars)
(Reporting by Sonali Paul; Editing by Ed Davies and Edwina Gibbs)