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The Fundamental Problems With Saudi Aramco's $50 Billion Stock Offering

Saudi Arabia's state-owned oil giant, Saudi Aramco, is in talks with senior external banking and legal advisers over the sale of up to another US$50 billion worth of its shares, according to various reports last week, which would equate on current valuations to around another 2.5 percent of the company's stock. This would be in addition to the recent 'transfer' of 4 percent of the stock to the country's Public Investment Fund. As with the initial plans of the Aramco board and Crown Prince Mohammed bin Salman (MbS) for the first stock flotation that finally occurred on 11 December 2019, the idea for this second flotation would be that the Aramco shares are listed not just on the domestic Tadawul stock exchange but also on a more prestigious international exchange, with London and Singapore being the current top two preferences. Although the recent run-up in global oil prices might seem to provide a more positive general backdrop to such an idea, the reality is that exactly the same concerns that prevented any meaningful take-up of Aramco stock last time around from international investors remain in place. These concerns were precisely the reason why the first Aramco stock flotation did not achieve any of the three targets intended by MbS: it did not sell 5 percent of the company; it did not value the overall company at US$2 trillion; and, it was not listed on any international stock exchange.

One major set of concerns related to the company itself, and long-running claims surrounding firstly its crude oil reserves figures and secondly its production capabilities (and, therefore, spare capacity as well), all of which are examined in depth in my new book on the global oil markets and as early as my first book in 2015. On the first point, at the beginning of 1989, Saudi Arabia claimed proven oil reserves of 170 billion barrels. Only a year later, and without the discovery of any major new oil fields, the official reserves estimate was increased by 51.2 percent, to 257 billion barrels. Shortly thereafter, it was increased again to 266 billion barrels or so, a level that persisted until a slight increase in 2017 to 268.5 billion barrels. On the other side of the supply-demand equation, from 1973 to the end of last week, Saudi Arabia pumped an average of 8.192 million barrels per day (bpd) of crude oil. Therefore, taking 1989 as a starting point (with 170 billion of crude oil reserves officially claimed in that year), in the subsequent 32 years Saudi Arabia has physically pumped and removed forever, a total of 95,682,560,000 barrels of crude oil. Over the same period, there has been no significant discovery of major new oil fields. Despite this, Saudi Arabia's crude oil reserves have not gone down, but rather have actually gone up: a mathematical impossibility. 

On the second point, of spare capacity, past and present senior figures from Aramco and the Saudi government have perennially stated this is 12 million bpd, and recently the company has been saying that it will increase this to 13 million bpd. This is despite - to reiterate a fact - Saudi Arabia's daily production from 1973 to the end of last week being just an average of 8.192 million bpd of crude oil. Additionally, during the 2014-2016 Oil Price War when Saudi Arabia absolutely needed to produce as much oil as it could to achieve its goal, it only managed to 'produce' above 10.5 million bpd for one very short period. More recently, even with new supply coming from Saudi Arabia's half share of the Partitioned Neutral Zone it runs with Kuwait, there have only been two occasions when the country has produced more than 11 million bpd, and both were for equally short periods. 

The problem is that Saudi Arabia's view of what constitutes spare capacity and what in reality constitutes spare capacity are very different. The official Energy Information Administration (EIA) definition is very clear and specific: spare capacity is production that can be brought online within 30 days and sustained for at least 90 days. Saudi Arabia, though, includes within its own use of the term 'spare capacity' every drop of crude oil that it can get hold of: including oil supplies in storage, supplies that can be withheld from contracts and re-directed into those stored supplies, and any oil that it can buy through brokers in the spot market and then sell on as its own. Exactly the same semantic trickery was used to cover up the actual supply shortfalls in the aftermath of the September 2019 attacks by the Iran-backed Houthis on Saudi's Khurais and Abqaiq facilities and later attacks. The reason that Saudi Arabia exaggerates all of these numbers appears to be to bolster its importance in the global economy, as without oil the Kingdom has little to offer. 

Further concerns for international investors stem from the revelation at the time of the first Aramco stock flotation that it does not actually own its own oil wells or sites and does not make its production decisions either, and the same is true now. This leaves would-be investors open to Aramco continuing to be used by the Saudi government as a funding source for various socio-economic projects that are nothing to do with its core business of oil production. Recent examples of this include developing a US$5 billion ship repair and building complex on the east coast, working with General Electric on a US$400 million forging and casting venture, and even creating the King Abdullah University of Science and Technology. At the time that the initial flotation was mooted, there was no indication that this practice would stop, with the US$500 billion Neom project being a case in point. As minority shareholders, any buyers of either the previously offered stock or any new stock would be powerless to halt such spending or, indeed, to halt Aramco being used in any future oil price wars as the principal weapon of the Saudi government, with the disastrous effects that this had on the company and the country on the previous two occasions (2014-2016, and 2020).

The additional problem for international investors looking at Saudi Aramco comes from its position as the state vehicle for Saudi Arabia's oil supplies, given that Saudi Arabia, in turn, remains the de facto leader of OPEC, and this poses a massive legal risk. Specifically, OPEC was founded in 1960 with the specific intention to 'co-ordinate and unify the petroleum policies' of all of its member states. This 'coordination' means aligning the production, sales, and pricing policies of its members: in other words, doing its utmost to fix global oil prices one way or another - in effect, acting as a 'cartel'. Listing rules and anti-trust legislation on all well-regulated international stock exchanges, including those of the U.S. and the U.K. - initially favored last time around by the Saudi government - preclude price-fixing. 

Given this, there is the very real possibility that any investor in shares listed on either of these exchanges - or any other equivalent well-regulated bourse - will see the value of Aramco evaporate in the event that anti-trust legislation is brought against the company, the ultimate result of which would be that the company would be split up into smaller constituent parts that cannot so easily influence global oil prices, in line with international law. This reality, as analyzed in-depth in my new book on the global oil markets, is one of which the U.S. government is well-aware and has been using as a Damoclean threat over Saudi Arabia since a committee from the U.S. House of Representatives approved the 'No Oil Producing and Exporting Cartels Bill' (NOPEC) bill at the beginning of 2019.

Such was the negative reputational fallout from the previous Aramco share offering for the Saudi government and MbS personally, it is difficult to imagine that the desire to do it all again proceeds from anything but one of two factors. First, that Saudi Arabia needs the money, and despite its benefiting from the recent run-up in oil prices, there is evidence that the effects of its ill-conceived oil price wars and the financial lengths required to save face on the previous Aramco share offering continue to weigh heavily on it. Second, that if this is true, MbS might be persuaded this time around that doing a private placement with China for the whole amount - as was the fallback position last time, as examined in depth in my new book on the global oil markets - is the optimal choice. This would allow him to get the money into his country quietly, at an undisclosed price per share, and not have to explain to anyone why the entire US$50 billion is not enough to cover even nine months of dividend payments for the shareholders of Aramco's previous stock flotation. 

By Simon Watkins for

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Simon Watkins

Simon Watkins is a former senior FX trader and salesman, financial journalist, and best-selling author. He was Head of Forex Institutional Sales and Trading for… More