Saudi Aramco IPO Would Be Huge

March 20, 2018 08:30 AM

“What is Aramco?” When asked whether it is an international oil company or a national oil company former Aramco CEO and former Saudi oil minister Ali al Naimi said, “I can tell you – and I’m not biased — that Aramco is no less than Chevron or ExxonMobil.” He had not quite answered the question. “We are a by-product of those companies; and we are different from, say, Kuwait National Oil Company,” Naimi continued. 

In other words, Saudi Aramco is not an international oil company in the vein of ExxonMobil (XOM), Chevron (CVX), Royal Dutch Shell (RDSA), BP and others. Nor is Saudi Aramco really a national oil company like those owned by Kuwait, the United Arab Emirates, Iran or Venezuela. Saudi Aramco finds itself somewhere in between. It is run more independently than national oil companies, largely because it controls its own finances and revenue. However, it also is bound by a commitment to the wellbeing of the Saudi kingdom and is – perhaps in theory more than in daily practice – ultimately controlled by the king and royal family. Saudi Aramco’s status is largely the result of a unique corporate, governmental and monarchical decision to pursue profit above nationalism and politics.

Aramco was owned by four well-established American oil companies – what eventually became Exxon, Mobil (now combined as ExxonMobil), Chevron and Texaco (now a subsidiary of Chevron). In 1933, the predecessor to Chevron negotiated an exclusive concession with the government of Saudi Arabia to explore and exploit Saudi Arabia’s oil resources, and within a few years, the three other American companies joined the endeavor. 

These American companies owned and operated Aramco for nearly four decades. In 1972, the Saudi government negotiated to purchase a 25% share of Aramco for a reported estimated $500 million, though the price has never been confirmed. Other Middle Eastern countries like Libya and Iraq were nationalizing the oil industries in their countries, but the Saudis were determined to buy ownership in legal, peaceful and mutually agreeable transactions that would ensure continuity of business and profits. In 1974, Saudi Arabia purchased another 35%, and finally, in 1976, the American international oil companies agreed to sell the rest of the company to Saudi Arabia by 1980. To this day, the insiders will not discuss how much the company was worth.

While Saudi Arabia gained full control of Aramco in 1980, it was registered in Delaware for another eight years. In 1988, the company’s legal registration moved to Saudi Arabia and the name was changed to Saudi Aramco. For years after Saudi Arabia purchased control of the company, Americans remained in prominent positions — including one as CEO — and profits did not falter because of the transition. 

In the late 1980s, Saudi Aramco waged a battle with the finance ministry in the Saudi government for control of the company’s revenue. According to Naimi, who became the first Saudi CEO of the company in 1988, the finance ministry fought hard to have Aramco’s finances placed under its own jurisdiction. The Aramco executives fought equally hard to prevent this because they said that the company’s potential was predicated on its independence. Naimi said, “What they wanted was all the income to come to the ministry…I said ‘no way.’” The executives prevailed and were proven correct over the next 30 years. 

The differences between Aramco and other national oil companies, according to Naimi, are that Aramco manages its own finances and that the government bought Aramco instead of nationalizing it and was able to keep the successful corporate structure. In a typical national oil company, revenue flows directly to the government, and the national oil company must receive funds from the government to pay expenses, let alone invest in capital projects. Aramco, however, runs like any private business — collecting revenue, paying expenses and then paying royalties, fees and taxes to the government. “You can’t let the fate of a company reside in the hands of people outside the company,” Naimi concluded.

Thus, in 1988, Aramco became a Saudi company that was owned but not directly managed by the Saudi government. Aramco benefited from the favor of the king and the government because, after all, Aramco provided a large part of the country’s funds. However, Aramco did not face the direct government interference, the politics or the bureaucratic waste that hampers most national oil companies. In addition, Aramco executives today often credit success to the seamless transition of ownership and the corporate structure and culture that the company “inherited” from its American predecessors.

As Naimi has said, Aramco acknowledges the benefits of its independence and Aramco has taken advantage. Since the mid-1980s, Aramco has sought to transform its company profile to resemble that of an international oil company. When Saudi Arabia assumed control over Aramco, its operations were confined to Saudi Arabia and mostly to upstream. Almost immediately, Aramco began to expand its downstream operations in strategic markets abroad. First, the company purchased a portion of a refinery in Port Arthur, Texas, which later grew into the largest refinery in the United States. Aramco followed this up with refinery ventures in Korea, the Philippines and China. It started an international petroleum shipping company it later sold to the Saudi government, opened an oil storage facility in Japan and built technology research centers in the United States. 

Now Aramco is bringing more downstream operations home. In recent years it has opened several new refineries and petrochemical plants in Saudi Arabia with international partners like Total, Dow Chemical and Shell. It is expanding research operations at its own headquarters, and it filed nearly as many patent applications as ExxonMobil in 2017. Despite Aramco’s massive downstream push, its business is still lopsided in comparison to that of the biggest international oil companies. Aramco’s oil reserves (technically owned by Saudi Arabia but exploited under an exclusive concession) are now about 12 times as large as Exxon’s. However, the downstream operations of the large international oil companies are much more mature and diversified than Aramco’s. Yet, Aramco continues to invest and expand downstream. 

Saudi Arabia’s Crown Prince Mohammad bin Salman mentioned the prospect of an Aramco IPO in an interview with the Economist in January 2016. Perhaps offhandedly, he also presented a target valuation of $2 trillion in early 2016. Since that time, the company has been preparing steadily for an IPO that is, according to the latest statements from Aramco CEO Amin Nasser, on track for the end of 2018. At Aramco headquarters in Dhahran, it seems everyone from the entry-level engineers to the senior vice presidents speaks about the IPO as a foregone conclusion, and most are excited.

The company has hired investment banks and commissioned audits of Saudi Arabia’s oil reserves. At the start of 2017, Saudi Arabia drastically altered Aramco’s tax structure with the government, dropping the 85% tax rate the company had previously paid to 50%. Despite these signs and repeated assurances from Aramco and Saudi officials that the IPO is “on track,” speculation persists over whether this IPO will actually happen.

Several reports emerged in mid-2017 that the Saudi government was considering a private sale of a portion of Aramco to Chinese investors rather than an initial public offering or as an anchor investment prior to an IPO. These reports appeared to originate within the Saudi finance ministry, not from Aramco or the oil ministry, but they have nonetheless persisted. The reports were given added prominence when the Aramco CEO and other Saudi officials traveled to China. King Salman himself traveled to China for meetings in the spring of 2017. Perhaps the meetings in China were for a private sale of a portion of Aramco, or perhaps they were focused on oil sales and downstream partnerships, as China is today Aramco’s most vital customer. Aramco officially declines to comment on IPO speculation except to say it is on track. On the other hand, some analysts insist the IPO will never occur.

More evidence suggests that the IPO will indeed happen. In January 2018, Aramco released a new charter, written in Arabic, which contains information typically seen in articles of incorporation and bylaws. It describes share classes, voting rights, procedures for nominating members of the Board of Directors and the degree of state control over Aramco. 

The issue that seems to flummox observers most is why Saudi Arabia and Saudi Aramco would want to take the company public. Aramco is not in need of cash. It is estimated that Aramco’s production cost per barrel is somewhere between $2 and $10, the lowest in the world. The company has been able to spend more on capital expenditures than any other international oil company while also paying very high taxes to the Saudi government. 

It has been suggested that Saudi Arabia needs the cash for its budget or to fund its new sovereign wealth fund (PIF). At most, selling 5% of Aramco would raise $100 billion before fees if the company achieved an ambitious $2 trillion valuation. This is a relatively small amount of Saudi Arabia’s budget and of the PIF. In fact, it has been reported that the Saudi government recovered at least that amount in recent settlements from high-profile corruption arrests. The revenue from the IPO will likely contribute to the PIF, which is being used to diversify the Saudi economy, but the PIF is stable on its own. Moreover, the Saudi coffers maintain enough foreign cash reserves to continue for another five years at the burn rate experienced when oil prices were low the last few years. Saudi Arabia can — and has — taken on debt if need be like most developed countries. The $100 billion amount is not enough for either Aramco or Saudi Arabia to pursue an IPO.

The primary motivation for the Aramco IPO can be found in the transformation underway in Saudi society and the Saudi economy. Long classified as a “rentier” economy, Saudi Arabia is working to diversify. The crown prince and the government eagerly seek to transform the economy, which has long relied on government jobs and welfare benefits, all funded by the oil industry. With an Aramco IPO, Saudi citizens will have the opportunity to obtain a stake in the company that has been the lifeblood of their country’s economy. Between employee shares, private citizen purchases and pension fund investments, an Aramco IPO will connect the citizenry with the most successful company in the country and with the oil that Saudis call their “gift from God.” 

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