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Analysis: Saudi Aramco valuation is less than hoped for, but Vision 2030 now starts in earnest

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Aramco sets IPO price, valuing it up to $1.7 trillion

Listing will raise up to $26 billion for economic reforms

Government's role in Aramco still seen as investment risk

London — The valuation of the world's largest oil producer has been set, with Saudi Arabia's rulers capitulating to what analysts and investment bankers have been saying for some time: $2 trillion for state-owned Aramco was a pipe dream.

Still, a $1.6 trillion to $1.7 trillion valuation, making Aramco the biggest publicly traded company, is nothing to sneeze at, and the planned selling of a 1.5% stake will raise up to $25.6 billion for Saudi Arabia to push forward its ambitious economic reforms.

The pressure is now on for Crown Prince Mohammed bin Salman to deliver on his vaunted Vision 2030 roadmap and transform the change-resistant kingdom into a dynamic, diverse economy that can persevere once the world has moved beyond oil.

"Efforts to grow non-oil revenues and diversify the economy are genuine, and stakes are high for several reasons: an uncertain long-term [oil] demand outlook, a large youth population energetic for reforms and opportunities, and large budget deficits," S&P Global Platts Analytics said in a recent note.

Saudi Aramco announced Sunday it was pricing shares in its long-awaited IPO between 30 and 32 riyals ($8-$8.53). At the top of the range, the listing would value Aramco at $1.71 trillion, less than the crown prince had hoped for.

Saudi Aramco IPO: valuation, oil and gas reserves

The final offer price will be announced December 5, the same day OPEC meets to decide the future of its production cut accord, and trading in the shares will begin December 11 on the domestic stock exchange, the Tadawul.

The cash infusion comes with Saudi Arabia's economy in need of a kickstart.

Saudi GDP growth has been anemic -- the International Monetary Fund projects it will expand just 0.2% in 2019 and modestly rebound to 2.2% in 2020.

The kingdom on October 31 unveiled its preliminary 2020 budget, revealing that expected 2019 revenue of 917 billion riyals is some 6% less than forecast in the 2019 budget. It also announced a 17% downward revision in estimated 2020 government revenue to 833 billion riyals.

The 2020 financial hit largely comes from a change in Aramco's royalty structure, designed to make the state oil giant more attractive to investors. The shift, which takes effect in January, reduces how much the company has to pay to the government for all crude and condensate sales at Brent prices up to $70/b -- a level the market has struggled to surpass since May -- while increasing the royalty rates for sales above that price.

Platts Analytics forecasts that Brent may rise above $65/b by the end of 2019 but will fall back to the low $60s/b by the end of 2020.

"The combination of changes in the tax structure related to Aramco and a more subdued outlook on oil markets will mean that the government's oil tax revenue component will likely remain contained if oil prices fail to rise above current levels," Saudi bank Jadwa Investment said.

A CHANGING ARAMCO

The proceeds of the IPO will go to the Public Investment Fund or PIF, the Saudi government's vehicle for delivering the bulk of the Vision 2030 projects. Many of those are set to begin construction and will no doubt welcome the cash.

S&P Global Ratings said the IPO funds could support longer-term economic growth "if subsequently effectively deployed."

Aramco itself is undergoing a makeover by expanding downstream and storage operations globally and deploying an increasingly active trading arm. It has also begun to focus on gas production, to reduce the amount of crude it burns for power generation to free up more for revenue-generating exports.

But the September 14 attacks on its Abqaiq crude processing facility and Khurais oil field have raised its risk profile, and the swirling questions about Aramco's transparency and Saudi government involvement in its finances and operations remain largely unanswered, contributing to dampened foreign enthusiasm for the IPO.

The government will continue to set Aramco's crude production levels in concert with OPEC, as well as the amount of spare output capacity it will maintain -- an expensive proposition that shareholders may balk at.

The kingdom's rulers have used Aramco in the past as a cash cow to fund and even manage pet projects completely unrelated to its core business of producing, exporting and refining oil. In March, the company was forced into a shotgun marriage with Saudi petrochemicals firm SABIC, in another move designed to raise money for the PIF, whose head is now Aramco's chairman.

Aramco also pays the government a "special dividend" in addition to royalties, but neither side has disclosed how that is calculated. For the first half of 2019, that dividend totaled $20 billion, an increase of $14 billion from the same period of 2018, the company said.

THE WORK BEGINS

The limiting of the IPO for now to the Tadawul could also effectively render the listing a transfer of wealth from the Saudi private sector to the government.

The IPO prospectus states that non-resident foreigners are allowed to own shares, but the kingdom has reportedly pressured wealthy Saudi families to participate in the listing and support the company's valuation.

An international sale of additional shares could follow in 2020 or 2021, Saudi officials have said. But so far, efforts to list Aramco on a foreign exchange, such as New York or London, have proved challenging, due to a host of regulatory hurdles and Aramco's own reluctance to disclose closely guarded operational secrets.

For now, Saudi leaders have to be content with a domestic IPO, at a valuation lower than envisioned, at a time when oil prices appear stuck in a malaise.

But having debated and hyped the IPO for so long, the kingdom will soon receive its Aramco windfall and can finally move forward with its Vision 2030 agenda.

-- Herman Wang, herman.wang@spglobal.com

-- Edited by Wendy Wells, wendy.wells@spglobal.com