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Robert Rapier

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Aramco’s True Breakeven Price

Saudi Aramco, the national oil company of Saudi Arabia, is by far the largest oil company in the world. The company produces around 13 percent of the world’s oil, but its business operations have been notoriously opaque for decades. It has often been stated that the company has plenty of low-cost legacy wells that drop its overall production costs to $10 per barrel, or even lower.

Because there was no way to audit this information, the world was left to guess at the actual breakeven costs for the world’s largest oil company. This week Saudi Aramco lifted the veil on its financial condition in a bond offering for the company. (PDF link here).

There are many important financial details in the filing. The company is indeed the world’s most profitable, earning $111 billion on $356 billion in revenue in 2018. This is nearly double the $59.4 billion made by Apple, the world’s second-most profitable company, in 2018. It’s also over five times the $20.8 billion made by ExxonMobil last year.

Bloomberg points out that Aramco’s “funds flow from operations” was $26 per barrel last year, which they note was worse than Shell or Total which reported $38 and $31, respectively.

However, I found the most significant item in the prospectus to be that Saudi Aramco struggled to break even in 2016 when Brent crude averaged about $45 per barrel. Net income in 2016 was only $13 billion, and free cash flow a mere $2 billion. Contrast that with the $111 billion in income and $86 billion in free cash flow the company made in 2018 (when Brent crude averaged $71.34/bbl), and it looks like Aramco’s breakeven price is just about $40/bbl. Related: Sharp Rise In Rig Count Pressures Oil Prices

No wonder OPEC threw in the towel in 2016 and decided to abandon its price war with U.S. shale. OPEC’s largest member saw its income dry up and was on the verge of posting a loss if oil prices didn’t turn around. I once characterized OPEC’s decision to declare war on U.S. shale oil producers as a trillion dollar miscalculation, and at least now we can see that it likely cost Saudi Aramco alone several hundred billion dollars.

The implications of this news are that we will likely never again see an extended period of time with world oil prices below $45, because OPEC will have to take action at that point to prop up prices as the cartel did in 2016. Otherwise, they will quickly find themselves in deep financial trouble, unable to balance government budgets.

So, if you do see oil prices dip back down to that level, it’s definitely time to buy. Unless, of course, demand for oil has peaked and is on the decline. But that’s an argument for a different column.

By Robert Rapier

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  • Old-Ruffneck Smith on April 06 2019 said:
    Perceived I believe is the opt word, not "True Breakeven". It is what is needed to keep their countries spending habits and social equality going. At $10bbl they are making slim money on quite a few wells drilled in the 30's and 40's and still producing. Fairly certain as with the Texas Yates field drilled same period and still operating but production is low. Fairly sure 70's and forward to now the price per wellhead has gone up considerably. Curious to see their sheets on drilling the newer fields, depths and rate of flow. How much do they really have in reserves? No, I think I will not invest in their bonds. Just showing enough to entice folks with money and know not much of the industry. IMHO
  • Mamdouh Salameh on April 07 2019 said:
    Saudi Arabia’s breakeven price must be far higher than the $7.5 per barrel before tax mentioned in its prospectus.

    In the early 1970s it was estimated between $4 and $ 5 a barrel. But the depletion in its aging oilfields must have definitely pushed it higher than $15 a barrel.

    Four giant oilfields Ghawar, Safaniya, Hanifa and Khafji (shared with Kuwait) all of which are more than 70 years old and which are being kept producing by a huge injection of water, have over the years accounted for more than 90% of Saudi oil production with Ghawar accounting for 50% of the total.

    Now the Saudis are saying that Ghawar which is the cornerstone of Aramco’s oil production and which according to the Saudis has been for years contributing 5 mbd to Saudi total production, can only produce 3.8 mbd. If this is the case, then the persistent reports about depletion of reserves which have been circulating for years about Ghawar must be true. It is fair then to suggest that the same depletion would have also affected the other aging oilfields. This is supported by the fact that Saudi oil production peaked in 2005 at 9.6 mbd and has been declining since. In a nut shell, Ghawar could prove to be the Achillies heel of Saudi oil production.

    This also contradicts Saudi claims that they have a production capacity of 12 mbd and a spare capacity of 2 mbd.

    The author’s estimate that Saudi Aramco’s breakeven price is just about $40 a barrels is wrong because it is based on faulty assumptions. For instance, he didn’t make allowance for a recent reduction in corporate tax levied on Aramco by the Saudi government from 90% to 50%.

    In 2016 Saudi Arabia produced on average 10 million barrels a day (mbd) at a price averaging $35 a barrel thus earning $127.75 bn before tax. Deducting a 90% corporate tax leaves it with net income $12.8 bn. In 2018, Saudi gross income was $222.7 bn based on a daily production of 10 mbd and average oil price of $61 a barrel. Deduction a 50% corporate tax would leave Saudi Aramco with a net income of $111.3 bn

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London
  • Jacques Lefave on April 07 2019 said:
    A good commentary, a good follow-up would be a study of dollar inflation over the years, especially the "quantitative easing" used to bail out the Obama administration. The modern form of money printing is generally used to accommodate Democrat administrations, and the necessary contractions are done to Republican administrations to support the perrenial meme of Santa Claus vs. the Grinch who stole Christmas. It has been a fairly successful political strategy over the years, but the advent of crypto currency signals the endgame of the con.- JL

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