By reporting a 44.6% decrease in profits in Q3 2020, Aramco has put a major damper on Saudi Arabia’s economic diversification strategies and overall stability. Saudi Aramco reported that its Q3 2020 profits decreased to Riyal 44.21 billion ($11.79 billion) from Riyal 79.84 billion ($21.29 billion) in Q3 2019. Worryingly, even those disappointing financials were helped by several royalty changes that boosted profits. The results from OPEC’s largest oil producer contradict the optimism being expressed by the oil cartel’s leaders in the media. While the results are arguably better than those reported by IOCs such as Shell, BP, Total, and Chevron, they are still very disappointing. The upcoming Q4 results are expected the be even lower. It is now apparent that Saudi Arabia is in serious economic trouble. Looking at this most recent report, it becomes very difficult to justify the optimism expressed by OPEC+ during the last JMCC meeting in Vienna, Austria. Suggestions that there are signs of improvement in the market seem to be largely based on the disputable figures presented by China. When looking at OECD markets, the USA, India, and even the MENA region, there is very little to be hopeful about for OPEC+.
The world’s most valuable oil company is clearly fighting an uphill battle as it attempts to control global oil markets while providing Saudi Arabia with a much-needed cash injection. The ongoing market crash and the slump in demand due to the COVID pandemic, which is once again driving large-scale lockdowns across Europe and elsewhere, doesn’t bode well for the Oil Kingdom’s revenue generator. Looking at current global developments, Q4 and H1 2021 are on course to be as bad as Q3 2020 or possibly even worse. All of that is before taking into consideration a possible election victory for Joe Biden and the re-emergence of oil production from Iran, Libya, and Iraq.
Aramco’s CEO Amin Nasser, however, remains optimistic, stating that he sees “early signs of a recovery in the third quarter due to improved economic activity, despite the headwinds facing global energy markets.” Aramco seems to be backing up its aggressive words with actions, as it maintains its total dividend payments. Nasser stated that “we maintained our commitment to shareholder value by declaring a dividend of $18.75 billion for the third quarter.” The company’s free cash flow, however, was $12.4 billion in the third quarter, falling short of its dividend commitment. The current dividend position is based on Aramco’s IPO promise that it will issue $75 billion in dividends annually for five years. If this promise is not kept, the repercussions for Aramco are likely to be very steep. It’s important to remember that Aramco is listed on the Saudi stock exchange Tadawul, making up the overwhelming majority of the total listing. The strength of Aramco is the main reason for the share price rally on the exchange. Any doubts about Aramco’s future dividend and profitability will not only hit the value of the NOC but directly affect the Tadawul. A share price decline and lower Tadawul could result in a major domestic financial crisis, as Saudi nationals have been betting on share price increases. A hit to the Tadawul is a hit to the entire Saudi economy.
Saudi Aramco’s financial strength is a key factor in the overall stability of Saudi Arabia. Without a stable oil and gas sector, Saudi Arabia could be heading towards a crisis. Lower revenues, which can be expected due to lower global demand in the coming months, will heavily impact both Saudi Arabia and the position of Saudi Crown Prince Mohammed bin Salman. Without generating cash, the country will struggle to maintain its economic diversification efforts, and unemployment, which is already on the rise, will likely spike. While Saudi Arabia’s overall hydrocarbon production for Q3 was 12.4 million barrels of oil equivalent per day, of which crude oil made up 9.2 million bpd, there is no guarantee that the Kingdom can retain that level of production. For 2020, Aramco indicated that its total CAPEX is expected to be at the lower end of the $25 billion to $30 billion range for 2020. It is possible that the oil giant will see further delays in new projects or even some cancellations. Observers should keep an eye on Aramco’s investments and operations in the Red Sea region, and its flagship Ras Al Khair Shipyard project.
The COVID pandemic, a global recession, and lower crude oil demand are problems that are unlikely to go away any time soon. The market strategy of OPEC+ is clearly failing and some OPEC members such as Libya and Iraq appear determined to increase production volumes. A combination of more oil from Libya and Iraq with the possibility of more Iranian oil coming online after January 2021 would be disastrous for oil markets. Saudi Arabia must face the reality that demand is unlikely to recover any time soon and supply could increase greatly. VLCCs and other maritime offshore storage options are already starting to fill up. NOCs like Aramco will have to cope with the pressure of their own governments, which need higher revenues to counter deficits, but at the same time have to be able to stabilize the global market. At present, those two issues are directly opposed to one another. OPEC+ is a major market force but it is not able to control demand. If low-cost producers such as Saudi Aramco are feeling the pain, then you can be sure the rest of the OPEC+ alliance is also in trouble.
Saudi Arabia’s current budget requires an oil price of around $50 per barrel. Mainstream advisors such as Goldman Sachs and Bloomberg are warning of consequences if no measures are taken to restructure the oil giant. Moody’s Investors Service has stated that Saudi Arabia cannot afford to rely on annual dividends of almost $75 billion from Aramco after 2021, especially if oil prices remain in the low $40s. Aramco’s dividend has, until now, managed to plug the government deficit. But now Aramco needs to find the cash to sure up its falling CAPEX and also to pay for the acquisition of SABIC.
Facing a fiscal gap of more than $11 billion in Q3, the government of Saudi Arabia is massively cash strapped. Indications are that the fiscal gap has increased by 27% in 2020 compared to a year earlier.
Last month, the Saudi government stated that it expects a budget deficit close to 12% of GDP in 2020 and 5.1% of GDP in 2021 before balancing in 2023. This assessment suggests that higher government revenue will come from the high dividend paid to the state by the national oil company, enabling Saudi Arabia to delay large spending cuts. But this may be putting too much reliance on a currently uncertain dividend. Aramco’s financial buffers are also eroding. There is also the potential of international rating agencies lowering the overall ratings of Saudi Arabia. With a budget based on $50 per barrel, a crisis seems to be almost unavoidable.
An economic slowdown, a domestic financial crisis, and a delay in new giga-projects in the Kingdom will not only diminish the global power of Saudi Arabia but also the domestic power of Mohammed bin Salman. These are worrying times for the Oil Kingdom.