By Gregory Brew
As OPEC’s most significant member and one of the largest crude oil producers in the world, Saudi Arabia typically exerts considerable power over global energy market trends. Yet for the last year, the oil giant has been largely reacting to events outside of its control: surging U.S. shale production, OPEC-member cheating and non-compliance, uncertain demand and a persistent supply glut that has kept prices at or below $50 a barrel.
Now, questions are being raised over the state of Riyadh’s big next move: the IPO of Saudi Aramco, the world’s largest and most valuable oil company, which Crown Prince Mohammed bin Salman once projected as being worth $2 trillion.
Analysts have doubted the veracity of the official Saudi estimate, with third-party valuations coming in much lower. The Financial Times has estimated the company to be worth between $880 billion and $1.1 trillion, while last March Bloomberg thought an IPO valuation would be closer to $1 trillion. Rystad Energy predicted $1.4 trillion, but only if prices recovered to $75 a barrel.
With prices stagnant and OPEC’s recent decision to extend production cuts having a minimal impact on market optimism, greater pressure is being placed on the IPO, which will put 5 percent of Saudi Aramco up for sale in early 2018.
The Crown Prince and his supporters within the Saudi government are gambling that the IPO can provide the first injections of capital into a massive sovereign wealth fund, which will then provide the financial basis for Vision 2030, a long-term economic development project.
It is the hope of the Crown Prince and others that Saudi Aramco will gradually become privatized and the Saudi economy pulled away from its current dependence on the oil industry, which provides 70 percent of Saudi state revenue (when prices were at their highest, oil accounted for more than 90 percent).
That will also mean diminishing Aramco’s role in Saudi society, which is massive. Cutting away non-oil related businesses could preserve the company’s value before the big IPO next year, according to analysis from Financial Times.
The Saudi state has already taken other moves to keep Aramco’s value high at a time of stagnant prices. Earlier this year, Riyadh reduced the onerous taxes levied on the company, from 85 percent to 50 percent, in an effort to improve its profitability. This encouraged analysts like Rystad to boost their estimates of its value.
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In the case of the United States, Riyadh is cautious over changed U.S. laws making it easier for the families of victims killed in the terrorist attacks of September 11, 2001 to sue the Saudi government. A large number of the terrorists involved in perpetrating the attacks were Saudi nationals. Opening itself up to such litigation is a compelling reason for Riyadh to look elsewhere.
To prop up the OPEC production cuts and try to move markets once again, Saudi Arabia has slashed exports to the U.S. and plans to reduce shipments to customers in Asia. The cuts to U.S. exports are a direct response to persistent higher-than-average U.S. inventories, which Saudi oil minister Khalid al-Falih believes are preventing the price from rising. Saudi plans to reduce domestic oil consumption, shifting electricity production from oil to natural gas, also figure in Riyadh’s strategy to bring down total oil production.
Like all other OPEC members and oil-producers, Saudi Arabia will benefit from higher prices. But the determination to move prices as soon as possible, targeting short-term factors like U.S. inventories with specific strategies, hints at the urgency in Saudi thinking. The country needs higher prices in the next year in order to support the Aramco IPO.
The decision to maintain production cuts in May was connected to the Saudi IPO, just as the failure to push for a production deal in 2014-2015 was a product of the Saudi strategy to squeeze competition.
Paradoxically, if the Vision 2030 plan succeeds and the Saudi economy is weaned off of oil production while Aramco’s presence in Saudi society is reduced, the urgency to move prices may decline, as Saudi Arabia diversifies. But in the short-term, the importance of the IPO next year is playing an increasingly important role in how Saudi Arabia is approaching the current supply glut.
By Gregory Brew for Oilprice.com