Publications
INSS Insight No. 1250, January 16, 2020
In December 2019, Saudi Arabia went public with Aramco, the world’s biggest oil company, and was thus forced to share a partial source of its wealth with others. The IPO is designed to raise funding for the Vision 2030 plan, whose goals include reducing the kingdom’s reliance on oil revenues by shifting investment capital to other sectors. Yet the scale of the IPO (1.75 percent of company shares) and the sum raised are far from meeting the country’s vast needs. Iran’s attack on the company’s facilities in September 2019 has not eluded the attention of Western investors, who apparently have a limited stake in the IPO. The more such security incidents continue, so will Saudi Arabia find it hard to attract investments critical for its future. At least from this standpoint, the Saudi interest is in reducing tensions with Iran and ending the war in Yemen.
Saudi Aramco, or Aramco, is Saudi Arabia’s national oil company. The company specializes in oil and natural gas exploration, production, and refinement, as well as the petrochemical industry. Aramco, the Saudi crown jewel, is the world’s biggest oil company and owns some of the world’s biggest oil fields.
The company’s 2018 financial reports note $356 billion in sales revenues, $213 billion in pre-tax profits, and around $111 billion in net, post-tax profit. In the first nine months of 2019, Aramco reported net profits of $68 billion, such that its 2019 earnings are lower. The company’s debt-to-equity ratio is lower than that of other leading oil companies in the world, which is obviously in its favor. State revenue from the company is derived both through taxation and profit dividends. In 2018, Aramco paid the state $102 billion in tax, and in March 2019 the company paid the state dividends amounting to $33 billion.
Saudi Arabia’s dependency on oil produced by Aramco is almost absolute, given that oil accounts for some two-thirds of state revenues. These revenues allow it to subsidize high quality basic services, such as education and health, and maintain high defense spending. Saudi Arabia’s defense budget for 2020 is 182 billion riyal (around $49 billion), approximately 4.7 percent less than the 2019 budget. The Saudi defense budget represents some 17.8 percent of the kingdom’s budget and is among the highest defense budgets globally. Thus Aramco’s revenues are vital for the kingdom’s security and prosperity.
As the world’s biggest oil company, Aramco also has great importance for global energy equilibrium. According to OPEC data, in 2018 Saudi Arabia produced a daily average of 10.3 million barrels of oil, accounting for 13.4 percent of global oil production, and the kingdom has 267 billion barrels in proven oil reserves, accounting for 17.8 percent of proven oil reserves globally.
The Aramco IPO is directly linked to Saudi Arabia’s Vision 2030, launched in 2016. The plan’s main goals include reduced reliance on oil revenue, inter alia, by shifting capital from the oil sector toward investment in other sectors. This proposed shift is in response to threats to the oil sector, led by price instability, increased oil and gas discoveries outside the kingdom, the development of oil substitutes and means of energy conservation, and security risks that require redistributing investments outside of the country. Because the kingdom has not found a way of funding the plan through regular revenues and debt offerings alone, it was forced to look to the Aramco IPO as a source of funding.
The original intent in 2016 was to issue 5 percent of Aramco shares at a company valuation of at least $2 trillion - or in other words, to raise at least $100 billion. But the IPO, slated for 2018, was postponed, apparently for several reasons: oil prices that were lower than what the Saudis had predicted, Saudi misgivings about the required increase in transparency, and the charged environment given suspicions against Saudi Crown Prince Mohammed Bin Salman, who is identified with the IPO, regarding his involvement in the murder of the journalist Jamal Khashoggi (October 2018).
In April 2019 Aramco bought 70 percent of shares of the Saudi petrochemical company Sabic for $68 billion, with money from the kingdom’s investment fund. To help fund the purchase, Aramco raised some $10 billion by issuing dollar bonds. To that end, Aramco published a forecast with details about the company and its financial situation, even before the publication of the IPO forecast.
The Aramco IPO ultimately occurred in early December 2019 at the Tadawul, the local Riyadh stock exchange where the kingdom wields more control, in contrast to the world’s leading exchanges that are preferred by foreign investors. The IPO was for 1.5 percent of the company shares, at a price of 32 Saudi riyals ($8.53) each, in accordance with a company valuation of $1.7 billion (less than initial Saudi predictions), such that it yielded the Saudi state $25.6 billion.
On January 12, 2020 Aramco said it had exercised its option to sell an additional 450 million shares, raising the size of its IPO to a record $29.4 billion (1.75 percent of the company). That same day, the share price was 34.8 riyals (company valuation of some $1.85 trillion), some 9 percent more than the IPO price. From the standpoint of the global capital market, though only a small portion of company shares were offered, the IPO is considered the world’s biggest and Aramco is the most valuable publicly-traded company in the world.
The IPO was designed to raise higher-yielding capital than other investments, including those that would provide more of a response for the needs of the labor market or additional investments abroad that would diversify Saudi Arabia’s sources of revenue. Yet this logic does not cohere with the limited scope of the IPO, as it addresses a small portion of Saudi Arabia’s needs in general and the investment needs of the Vision 2030 plan in particular. In early 2019, within the Vision 2030 framework, the Saudis presented an investment plan amounting to $450 billion over the coming 11 years, intended to reduce oil dependency and create 1.6 million jobs. During 2019 the International Monetary Fund warned Saudi Arabia that it must create one million new jobs over the coming five years (with the unemployment rate among Saudi citizens now standing at more than 12 percent). In addition, in December 2019 the planned budget deficit was reportedly 6.4 percent of GDP, compared to 4.7 percent - the effective deficit-to-GDP ratio in 2019. Clearly the need to create sources of revenue as alternatives to oil necessitates a major redirection of resources, beyond the capital yielded by the IPO.
Therefore, it appears that the scale of the IPO and the choice of its location were the result of a compromise, with the IPO itself mainly serving as proof of clinging to a Saudi economic strategy led by Bin Salman. One way or another, the IPO opened up a path to additional fundraising through further offerings of company shares.
The kingdom’s decision to share its oil wealth is not to be taken for granted, as the share offer reduces the kingdom’s relative leverage in the Aramco company and requires a high level of transparency. The success of the IPO will be gauged by how the Saudi leadership uses the money raised. Success will constitute investment of IPO funds in prospects outside the local oil sector that contribute to employment and yield profits greater than the expected profit-loss from the share offer. Failure will constitute a use of the money to pay for routine expenses.
To judge from media reports, most of those buying the shares were from Saudi Arabia and other Gulf states, whom the royal household had urged to buy shares; only a small portion of the Aramco shares were bought by investors outside the region. This followed reluctance on the part of Western investment managers to recommend buying the company’s shares, apparently because the IPO was conducted at a local exchange and given the enhanced risks facing the company and the kingdom in the wake of Iran’s September 14, 2019 attack on the Aramco oil facilities. The attack temporarily cut Aramco’s oil production by more than half. After that incident, Fitch reduced the credit rating of Saudi Arabia and Aramco from A+ to A.
Should such attacks continue, there will be serious consequences for the company and for the willingness of foreign investors to invest in the kingdom at all, with its inherent stability risk. From this standpoint, the security risk bolsters the kingdom’s interest in calming tensions with Iran and extricating itself from the war in Yemen. At the same time, it lends weight to the kingdom’s calculations for reducing its enormous dependency on the oil sector, which is sensitive both to developments in the global energy market and to security incidents.
