Saudi Aramco’s Landmark IPO Is Costing The Kingdom Billions

Yves here. Covid has pushed coverage of the Middle East down in the news reporting, and so we’re doing a bit of compensating today. Readers may recall that in 2016, Saudi Crown Price Mohammed bin Salman announced a grand, and some might call it grandiose, plan to greatly reduce the kingdom’s dependence on oil and turn it into an investment powerhouse by 2030. Why Saudi Arabia should be able to do better than established sovereign wealth funds was not explained.

The fact that the Saudi Aramco IPO has turned into a big cash suck doesn’t speak well of Riyadh’s financial acumen.

By Simon Watkins, a former senior FX trader and salesman, financial journalist, and best-selling author. He has written extensively on oil and gas, forex, equities, bonds, economics and geopolitics for many leading publications, and has worked as a geopolitical risk consultant for a number of major hedge funds in London, Moscow, and Dubai. Originally published at OilPrice

The initial public offering (IPO) of Saudi Aramco that was heralded by Crown Prince Mohammed bin Salman (MbS) as being a showcase flotation for raising massive new capital for the Kingdom and anchoring a major expansion of its international equities market presence has proven only to put Aramco into a debt spiral and highlighted a myriad of problems in Saudi Arabia to international investors.

Now, Aramco is digging itself further into serious debt through bond issuances simply to pay for the huge dividend payments promised by MbS that were absolutely required to persuade anyone to buy into the omni-toxic IPO. At this rate, the debt taken on by Aramco and other Saudi bond offerings to pay for the dividends will be far more than the amount of money raised in the IPO.

As a direct result of MbS deciding to go ahead with yet another oil price war at the same time as the COVID-19 pandemic was gathering pace and destroying demand for oil, Aramco’s finances have suffered a massive hit. For the first half of this year, the company saw a 50 percent plunge in net profit and at the beginning of this month, it reported another massive drop in profits of 44.6 percent for the third quarter, falling to SAR44.21 billion (US$11.79 billion) from SAR79.84 billion in the same period last year.

On the other side of the balance sheet, though, is the stark fact that because the company’s IPO was so toxic on so many levels that it was shunned by Western investors and had to be off-loaded to buyers who were either bullied or bribed into buying the stock Aramco is left having to pay massive guaranteed dividend payments for the foreseeable future to those shareholders.

This huge guaranteed dividend payment of US$18.75 billion per quarter – US$75 billion for a full year – will have to be paid for through budget cuts over and above the US$15 billion in Aramco’s annual capital spending alluded to by Aramco’s chief executive officer, Amin Nasser, just after the first half profits figures were unveiled. This will take the total down from around US$40 billion to around US$25 billion. Further reports have stated that even this US$25 billion figure is set to be reduced by another US$5 billion, taking the total capital spending in this year from US$25 billion to US$20 billion.

Whatever the cuts, it remains the case that the first two dividends together for the first two quarters of this year – US$37.5 billion – far outstripped Aramco’s total free cash flow of US$21.1 billion for the same period. The latest profits number for the third quarter, meanwhile, covers just 62.88 percent of the dividend payment, never mind any other expenses or investment for projects ongoing or planned that Aramco may have had in mind. To put this even more clearly: Aramco’s entire profit for the third quarter cannot even cover the dividend it owes for the same quarter, not even two-thirds of it!

As a result so far of the slide in Aramco’s profits, the once much-vaunted flagship US$20 billion crude-to-chemicals plant at Yanbu on Saudi’s Red Sea coast has been indefinitely suspended, according to various reports. The similarly high-profile purchase of a 25 percent multi-billion-dollar stake in Sempra Energy’s liquefied natural gas (LNG) terminal in Texas is also apparently under threat, although Sempra for its part has said that it continued to work with Aramco and others “to move our project at Port Arthur LNG forward.”

In the same vein, according to various news sources, Aramco has suspended its key US$10 billion deal to expand into mainland China’s refining and petrochemicals sector, via a complex in the Northeastern province of Liaoning that would have seen Saudi supply up to 70 percent of the crude oil for the planned 300,000 barrels per day refinery. In sum, it appears that all of Aramco’s principal projects aimed at diversifying Saudi Arabia away from the relatively zero added-value pursuits of just pumping and selling crude oil are now subject to review and/or outright suspension.

The chances of these – and other stalled projects – being resuscitated with money from other Saudi government departments looks minimal, as MbS’s second oil price war has similarly decimated these finances too. Figures released at the end of September showed that Saudi Arabia’s economy contracted 7 percent year-on-year (y-o-y) in the second quarter of 2020, with the Kingdom’s private sector showing a negative growth rate of 10.1 percent, while the public sector recorded negative growth of 3.5 percent. Saudi’s oil revenue in the first half of the year was 35 percent lower than a year earlier, while non-oil revenue fell by 37 percent. Moreover, in the second quarter of 2020 alone, the Kingdom’s petroleum refining activities recorded a 14 percent y-o-y drop. All of this resulted in a current account deficit of SAR67.4 billion (US$18 billion), or 12 percent of GDP, in Q220 compared with a surplus of SAR42.9 billion, or 5.8 percent of GDP, a year earlier, according to Saudi Arabia’s General Authority for Statistics.

Therefore, Aramco has little choice but to continue to fund the dividend payments to its own shareholders by taking on more debt, in direct contrast to the influx of new money that MbS said would flow into Aramco and then more broadly into the Saudi Tadawul stock market following the ‘landmark IPO’. In essence, Aramco has been left to take on debt to pay the people who bought it shares, which is akin to a family who decides that it has to sell the precious family silver to pay off debts but then ending up having to take out more debts to pay people to buy the silver.

Moreover, judging from last week’s bond sale by Aramco, it appears that even those investors who have been willing to buy the company’s paper – so increasing their risk exposure to not just to the omni-toxic Aramco but also to Saudi as a sovereign issuer – might be reaching the limit of their appetite for either. Saudi had been looking to raise US$8 billion from the five-part bond deal, which it did, but crucially it attracted just US$48.1 billion in orders for the debt sale, less than half of the amount that it received for its debut bond sale last year when it raised US$12 billion. Even more indicative of increasing investor caution in taking on more exposure to Saudi risk – especially that of the increasingly indebted (bonds plus dividend obligations plus revolving credit lines) Aramco – is that in last year’s bond sale Aramco was able to price the bonds at a tighter spread to the benchmark than Saudi sovereign debt but this time Aramco’s bonds were priced wider.

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    1. drumlin woodchuckles

      Perhaps if KSA can be left with actual zero currency left after these costs are paid, then KSA will no longer be a lucrative member of the GAJ ( Global Axis of Jihad) and will no longer be able to send its Wahhabi missionaries and subsidies abroad to spread its own special brand of Ku Klux Klanislam all over the world.

      Let us pray KSA becomes as poor and inconsequential as Transnistria or someplace.

  1. Thuto

    If in a hole, stop digging. The Aramco mirage is starting to lose its shine and this whole debt issuance to pay guaranteed dividends when the price movement of the principal commodity you trade in is unlikely to point upward long enough to get you out of the hole is ill adviced. The prudent thing to do, if it’s possible, is to take the whole thing private again at a reasonable premium for shareholders. Yes they’ll look like clowns, but the alternative is to continue headlong down this path of spiralling debt and cut-to-the-bone capex for goodness knows how long, when the outlook for oil hardly inspires any confidence to begin with.

  2. Tom Pfotzer

    The Saudi IPO was always about finding bag-holders for a dead-end asset. They are walking the same path as the coal industry, just a few steps behind. Did anyone seriously expect the IPO to work?

    For the Saudis to evolve, they need new ideas and skills. To get those two vital things, they need a new culture.

    Rebuilding a culture takes many decades, and the Saudis have run out of time.

    There are lessons to be learned from this spectacle.

    1. Ford Prefect

      It is obvious that MBS needs to retain Eddie Lampert as an advisor on what to do with a flagship entity that just needs a little bit of revitalization to regain its past glory. They should be able to extract a significant amount of personal wealth from the steady cash flow from Aramco and its debt, along with the management fees for managing the country. Then they should be able to unlock the real estate value by selling Saudi Arabia to developers.

  3. km

    Apparently the Houthis hit another Saudi oil refinery.

    I don’t suppose anyone knows whether the dividend payments provisions have an appropriate Force Majeure escape clause?

    1. Ozz

      Interesting point. I can see that as either good or bad for Aramco. I am not so sure of the upside for Yemen if it involves more fighter strikes and loss of life. Maybe in the long run if they can get SA to collapse, I don’t see that today though.

      1. drumlin woodchuckles

        If they collapse into destitution, that would be fine. But if they collapse into the loving arms of al Qaeda or ISIS, that would be bad.

        If that threatens to happen, Iran-Iraq will find a way to separate the Eastern Province from KSA in order to prevent al Qaeda/ISIS from getting to use it in their Hitleroid genocide project against the Shia.
        ( The DC FedRegime and other supporters of the GAJ would try their hardest to hand the Eastern Province over to al Qaeda and/or ISIS in the event of a terminal KSA collapse into non-existence. Iran-Iraq would have to move fast and hard to get there first).

  4. TMoney

    Real money will get made buying up the defaulted bonds in a few years. 10 cents on the dollar and you own the Saudi oil fields. So what if it’s a dying asset, the price will be right. Vulture funds have to be drooling at the prospect of owning the lowest cost producer. The IPO runners can already see the end game and will help with bond issuance to get the Saudis there as quick as they want – which appears to be VERY fast indeed.

    1. topcat

      The US will fund the Kingdom whatever as they need the Saudis to fight proxy wars.
      The KSA has I think about 200B of reserves so they can pay the bills for a year or two.

      1. TMoney

        But that’s the genius of the IPO. Aramco owns the fields. Aramco is loading up on debt. Aramco goes belly up and the (secured) bondholders get the fields. Unsecured liens might get some scraps. Shareholders have a nice new empty tote ! The US might still lend the House of Saud cash – but once the Aramco collapse is done, I think the relationship will be very different.

    2. edwardo

      But the same people will be able to buy Venezuelan oil fields too, which are even bigger although not as light. It will be a race to the bottom.

  5. Matthew G. Saroff

    The House of Saud will fall sooner rather than later.

    Their choice is between falling like the House of Windsor (a UK style constitutional monarchy) or falling like the House of Romanov (executed and buried in a swamp).

    1. drumlin woodchuckles

      The ” least bad” outcome would be for Iran-Iraq to get the Eastern Province before al Qaeda/ISIS can get it.

      The cultured and civilized parts of KSA may go free and regain their former independence and/or autonomy. Perhaps the Husseini family might send a representative to Mecca to reclaim that family’s former position as Guardian of the Grand Mosque and the City.

      Surround Nejd with triple strand electrified poisoned razor wire. Let food and water in, but let no one and nothing out. Shoot on sight anyone who tries to leave in case they are carriers of Wahabbitis.

  6. Watt4Bob

    My uncle, retired from one of the world’s biggest property management firms, he sometimes met oil tankers at the dock to test the quality of the oil his firm purchased.

    I once lamented, in his presence, our situation vis a vis Saudi Arabia, and our dependence on oil.

    He told me not to worry;

    “For every $1 dollar we send them, they send us back $8.”

    I don’t know how that worked, but I’m getting the message he was right.

  7. khorordets

    The most ridiculous part of this is that Saudi continues to consume massive amounts of oil to generate electricity (with some of the waste heat, I believe, used for desalination). One analyst I read is trying to figure out if this amount is the largest single-enterprise oil user in the world. Astonishing amounts.
    This oil is sold domestically at basically cost, or at least far less than it would net sold abroad.
    Replacing large amounts of this with solar would likely be far more profitable, and not require as large continuing investments in the oil extraction/refining.

  8. Susan the other

    It just sounds like the Saudis ran out of money like Rommel running out of gas. Just before their pipeline to the Mediterranean goes online with what is left of Saudi oil. Why would they pay so much to sell their crown jewels? Somehow I’m sure we are not hearing the whole story. But one big question is why would anyone ever invest in Saudi oil now? Of course they have to bribe their buyers. But that doesn’t mean they haven’t stashed away all sorts of assets. They’ve been spending at nosebleed levels for decades. And they have known all along that oil was going to so south on them – it would have happened within another decade or two because they’ve pumped most of it up already. And they haven’t come clean on just how much oil is left which is why nobody would invest in ARAMCO. The Saudis obviously can’t continue to live in their lavish desert kingdom. So there’s no way they have not planned on finding a new one somewhere.

    1. topcat

      As a wise Arab once said, the sone age didn’t end because we ran out of stones and ditto the age of oil.

      However, they haven’t been squirelling away like the Nowegians they have been subsidising their living standard like the UK since Thatcher. The house of Saud will be fine, they have their secure pads in NY, London and wherever, but the population is in trouble just like everywhere else on the beatiful planet earth except maybe Norway 8-)

  9. notabanker

    Bigger story here is that the world can get by just fine not burning all of that Saudi oil, and that translates into planes and cars as well. It will be interesting to see if this is the start of consumption decline or if the balloon can be reinflated.

  10. ObjectiveFunction

    As others have observed, it’s the extreme form of “Dutch disease”, coupled with a deadwood rentier oligarchy drowning in wealth they do nothing whatsoever to extract. Even counting all the sinecures, I doubt more than 15% of people working in Aramco and its satellite operations hold Saudi passports, the rest being South Asian migrants.

    That entire pyramid of clan patronage is now in the process of being toppled by a Big Man (MBS), in the ‘winner take all, bigly’ spirit of these times. Of any times, really: a palace bloodbath at the succession is a salient feature of ‘Oriental despotisms’ (and not a few Western ones too).

    Being steeped in blood so far in, MBS must now secure the means to buy popular consent, from an elite accustomed to free money, or perish. Axiomatic, right out of Machiavelli. But wealth being largely intangible, I guess he didn’t seize what he expected in the Ritz Carlton purge.

    So now he’s trying to attract even dumber money from overseas. I assume that his hoped for patsy was China (which can’t send a gunboat, yet). But in fact, they only toss money at deals that make work for the China Inc. machine (i.e. where the capital flows right back home).

    Sing it, Stevie: Rulers make bad lovers / better put your kingdom up for sale

  11. Keith McClary

    Is the US$75 billion annual dividend going just to the shareholders who paid $36 billion for 1.5% of Aramco? Or is it split with the other 98.5% shareholder (AFAIK, the Saudi govt.)?

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