Yesterday was a whirlwind day for oil news out of the Middle East. First, Reuters reported that the long anticipated Saudi Aramco IPO was on the shelf. Then, late at night, the Saudi oil minister Khalid al Falih issued a statement denying that report and insisting that the IPO plans were still on. The news from the ministry offered further details, notably including new information that the government and the oil company have embarked on a long-term extension of the contract that grants Aramco exclusive oil and gas production rights in the kingdom—a major step toward a public offering.
Last night the oil ministry served to reassure the markets that an Aramco IPO would be coming at some point, but it actually made that same case just last week.
Saudi Aramco is positioning itself for an IPO and presenting itself as both the world’s most profitable company and also as a growth opportunity. That much is clear from the Aramco 2017 Annual Review, which was released last week. If the company is to embark on an initial public offering (IPO) in the near future, it is presenting itself as a cash-generating machine today with even brighter prospects for tomorrow.
While a potential IPO of the Saudi national oil company was first proposed publicly in January of 2016, the lack of concrete news or visible progress on the issue has left many doubting whether the initial public offering will ever materialize – especially after yesterday’s report. Though the company hired banks and advisors more than a year ago to prepare pre-IPO paperwork, the public is left wondering what happened to the plans. The messaging from Saudi Aramco in its annual review, however, is just the opposite. The IPO is barely mentioned but the document itself makes its case in favor of Aramco’s value.
Note: The Saudi Aramco Annual Review is a document prepared by the company, which is privately held by a single shareholder. This is not the same as an Annual Report of a publicly traded firm. While production and operating numbers are provided, financials are not. Moreover, there is no indication that any numbers have been audited, and previous Aramco Annual Reviews explicitly stated that they were not audited. The Annual Review provides only the information that Aramco wants to share, because the company is not required to share any information. However, it is useful to see which facts Aramco choses to share and how the company chooses to present itself. Before an IPO, Aramco would be required to disclose more information, including audited financials.
There are two main indications of the value of a publicly traded company: profitability and growth potential. Aramco is widely believed to be the world’s most profitable company, so that aspect of valuation is quite exceptional. The question many have is growth potential. Last year, the Aramco Annual Review showcased the company in comparison to major international oil companies (IOCs). This year, the Annual Review’s goal is to demonstrate Aramco’s growth potential.
This is the theme from the very start of the report. The cover page has a picture with the report title and the words, “unmatched opportunity.”
Investing To Grow:
The included letter from Khalid Al-Falih, the Chairman of the Board and former CEO, takes pains to juxtapose Aramco’s continued commitment to investment across the energy and petrochemical industry with the decline in investment from its competitors. While other major IOCs have been cutting investments in exploration and production and in research and development, Al-Falih writes, “Saudi Aramco is committed to playing its unique part in meeting the world’s energy needs today and tomorrow by continuing to invest wisely throughout the cycle and across the value chain.” This is in contrast to “the oil industry’s preparedness for the future [which] remains in question as the sector has lost an estimated $1 trillion in planned investments since the market downturn.” The implication is clear: Aramco is investing to grow tomorrow while its competitors are not.
The IPO:
As he did last year, Al-Falih directly references the IPO. He writes, “the company continued to prepare itself for the listing of its shares, a landmark event the company and its Board anticipate with excitement.” Though some international observers doubt an IPO will ever happen, Al-Falih, who now serves as the Saudi Oil Minister and on several influential government boards, has never wavered on the plans publicly. Nor have Aramco or any Aramco personnel.
Growth Potential:
Similarly, Amin Nasser, Aramco’s CEO, writes in his letter about recently discovered oil fields, and new facilities set to come online in the near future. He highlights that Aramco, “sustained growth while maintaining strong cost discipline.” He explains that when it comes to downstream (refining crude oil, creating hydrocarbon products, etc.), Aramco’s “primary objective” is to “elevate our downstream business to the level of leadership we enjoy in upstream.” Currently, Aramco has the world’s most profitable upstream (extracting hydrocarbons from the earth) operation with the most capacity, but it lags in downstream operation in comparison to the major IOCs (which I covered in my analysis of the 2016 Annual Review). Thus, Nasser’s statement is equivalent to a pledge to grow until it dominates, while, “maintaining strong cost discipline.” These are the words a CEO would use to claim growth potential and advocate for a high valuation.
The Annual Review refers repeatedly to the company’s already impressive business but regularly emphasizes its growth potential. “We are the world’s largest integrated oil and gas company,” it reads. Still its upstream strategy is, “designed to maximize long-term value and to create and sustain value for generations to come.” This is in line with traditional Saudi oil policy of long-term profits and growth potential.
Upstream:
Aramco’s greatest asset is its exclusive concession agreement with the government of Saudi Arabia for hydrocarbon rights. Over the years, some have disputed the size and health of these oil and gas reserves, and others have said that Aramco is just an oil-pumping company. If the reserves were limited or poorly maintained, or if Aramco was merely an oil-pumping operation, then Aramco’s growth potential would be limited significantly. The Annual Review details Aramco’s strategy to keep its resources available in the long run, including preserving mature reserves, committing to new exploration, improving efficiency through technology and using unconventional resources. While basic math says that Aramco will run out of crude oil in about 70 years at current production rates, under this strategy Aramco aims to continue creating profit longer.
Downstream:
When it comes to downstream, Aramco’s ambitions are even greater. Aramco is still behind the major IOCs in downstream operations, but the Annual Review emphasizes that the company’s “ventures in this sector position [Aramco] for future growth and long-term value creation.” This is what equity investors are looking for, however they will want to see the audited numbers.
Along these lines, Aramco is creating a wholly owned subsidiary called Aramco Chemicals Company which would presumably have a role in Aramco’s new purchase of its European chemicals operation, ARLANXEO, its joint operation with DowDupont, Sadara, and even a rumored purchase of a major stake in the Saudi company, Sabic. Similarly, in 2017, the company created a subsidiary, Aramco Power, to improve the company’s power generation business. The Annual Review also describes various new and developing operations in the range of downstream.
Research and Development:
Another effort that Aramco emphasizes in this report and in other publicity is the company’s international research and development operations. Aramco highlights R&D facilities in 10 global cities including three in the United States, three in Europe and two in East Asia. The company also showcases innovations like carbon capture technology that recycles the captured CO2for chemicals production. In truth this R&D focus is not new for Aramco – it’s more than twenty years old. The intent in this report is clearly to show a forward-looking futuristic company. But if Aramco goes public, it will be up to investors to determine how much value the R&D component adds.
It is unclear who reads the Aramco Annual Review other than the most devoted oil industry watchers and authors of books about Aramco. But this year, the report is clearly designed to show more than a thriving company oil and gas company. The emphasis on ambitious growth potential could be seen as a nod to future potential investors.
Follow me on Twitter or LinkedIn. Check out my website.