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FEATURE: Plans for second Aramco share sale increase oil price pressure on Saudi Arabia

Highlights

Aramco must navigate pandemic, energy transition

Capex cuts may hit production capacity expansion

OPEC+ quota decision looms in March

Dubai — Spurred by the accelerating global energy transition, Saudi Arabia may soon sell more shares of its flagship oil company to finance projects aimed diversifying its hydrocarbon-reliant economy.

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The plan underscores Saudi Arabia's urgency to raise crude prices in the short term, analysts say, as uncertainty over the future of oil demand while the world continue to grapple with the coronavirus pandemic could hamper Aramco's valuation in a share listing.

"I do not expect that there will be a rush to offer more shares in Saudi Aramco but selling a bigger stake in the company was always been part of the crown prince's plans and one of his key objectives," said Neil Quilliam, managing director of consultancy Azure Strategy. "A sustained upswing in oil prices and a pick-up in global demand will certainly be considered more conducive to another IPO."

Saudi Arabia buoyed the oil market with its surprise announcement in January to unilaterally cut an extra 1 million b/d of crude production beyond its OPEC+ quota, sending prices to a 13-month high in recent days.

Crown Prince Mohammed bin Salman, the country's de facto leader, then told a Riyadh investment conference later in the month that a second tranche of Aramco shares will be offered, though he provided no timeline nor details on how much of the company will be available.

Proceeds from the sale would be directed to Saudi Arabia's Public Investment Fund, the crown prince's main vehicle to transform the economy and wean it off its dependence on oil revenues, which appear increasingly volatile.

Any share sale would be a follow-up to Aramco's history-making initial public offering in December 2019, when 1.5% of the company was listed, earning it an overall valuation of $1.7 trillion, making it the world's most valuable business at the time.

MENAP fiscal oil breakeven prices

Stabilizing oil prices

But the oil market looks much different now.

Prospects of global oil demand peaking sooner, rather than later, due to the pandemic, may have increased the imperative for Saudi Arabia to monetize its cash cow. In 2020, Saudi Arabia, the world's largest crude exporter, saw its oil revenues decrease 30.7% year on year to $109.81 billion due to the market crash and production cuts per its commitments to the OPEC+ agreement.

Aramco stock, which trades only on the Saudi domestic exchange, closed Feb. 16 at Riyal 34.85/share ($9.29), up 9% from the IPO price of Riyal 32/share ($8.53).

Further destabilization of the oil market could imperil that valuation, lessening the proceeds that the Saudi government, Aramco's primary shareholder, could earn from a sale.

"It is reasonable to assume that the energy transition and risks associated with the issue will now be having an increasing impact on valuations across the sector," said a Middle East-focused analyst, on condition of anonymity.

To fund Crown Prince Mohammed's Vision 2030 economic plan, which includes hydrogen projects, futuristic cities and a swath of technology investments, Saudi Arabia is in need of cash.

It has been the ringleader of the OPEC+ alliance, with sometimes reluctant partner Russia, shepherding the producer group through a series of output cuts. But even before the recent rise in prices, many OPEC+ members have been eager to roll back their quotas, in direct opposition to Saudi Arabia's more cautious stance.

The coalition next meets March 4 to decide on production levels for April and possibly beyond, and Saudi officials have been mum on what course of action they will push.

Saudi Aramco by the numbers

Financial strain

Aramco, meanwhile, has embarked on a series of cost-cutting measures.

It slashed its 2020 capex budget in half, to around $25 billion, and has signaled its yearly capex budget will remain at this level until at least 2023. Aramco is expected to announce its Q4 2020 earnings in the coming weeks.

To make up for any budget shortfall, Aramco may have to take on significant amounts of debt to fund any expansion projects, sources said.

"Aramco is targeting a maximum production capacity of 15 million b/d by 2025; it is gearing up to get a bigger global market share," said a Gulf-based industry source close to the company. "They need to be prepared for the day when dependence on low-cost oil production increases. They believe that day is coming."

Additionally, Aramco has increasingly focused production at cheap onshore assets and moved away from pricier offshore projects, sources said.

But its onerous dividend, while a potential attraction to investors, could hamstring growth.

As part of its pitch to investors during the 2019 IPO, Aramco pledged to issue a $75 billion dividend annually for five years. The Saudi government, which owns 98.5% of the company, is the primary benefactor.

Saudi Arabia will have to maintain Aramco's appeal to investors, which may include continuing to prop up crude prices, as it banks its future on its low cost of production in what could be a decades-long global transition away from oil.

'Saudi Arabia will remain the dominant oil market participant as it soaks up an increasing share of demand in a shrinking market, as higher cost producers are edged out," Quilliam said. "And that would bode well for the valuation, but it will all come down to timing."