Saudi Aramco – Coming Soon to an Exchange Near You?
Evidence emerged last week that persistent rumors of technical problems coming from a large Saudi offshore oil field could have credence. There are now indications that the problem may be spreading…with a possible knock-on effect facing other OPEC-members in the Persian Gulf.
This is hardly the sort of buzz Saudi Aramco wants in advance of its historic IPO. Aramco is the largest oil producer in the world. At some point within the next year 5% of Aramco will be floated in the largest initial placement on record. Between $50 and $100 billion will be obtained for a sovereign investment fund Riyadh will employ to diversify the government’s revenue flow.
Some of the realized investment will move back into maintaining Saudi fields, ostensibly to address the kind of problems I will address in a moment. However, most will comprise diversification occurring by acquiring assets of energy and non-energy companies abroad, rather than by the more traditional practice of enticing industry to move into Saudi Arabia’s domestic market.
The IPO will effectively value all of Aramco at between $1 and $2 trillion. My current estimate would put that figure at about $1.4 trillion. But remember that, while the IPO and resulting fund will reflect only a twentieth of the company, the collateral value of what the government retains will be positively impacted.
Provided, of course, that potential IPO buyers have access to two matters withheld since Aramco was nationalized back in 1979: a multi-year profit sheet on the company; and genuine extractable reserve figures.
Both are now the subject of competition among major exchanges worldwide jockeying to be the primary location of the IPO. Ultimately, depository receipts (and to a lesser extent depository certificates) will extend the participation to a network of bourses.
Last week the Financial Conduct Authority, the regulator of the London Stock Exchange, announced it intended to establish a special category “within its premium listing regime” for sovereign-owned companies. The new approach would allow less than the currently mandated 25% of company shares to float on the LSE. Secondly, it is going to provide for less transparency.
And for a government intent on making available as little information as possible, the latter may be a more important revision. Other exchanges in the competition – Singapore, Hong Kong, Tokyo and even Toronto (but not New York) already have similar provisions.
As with any publicly-traded oil company, the essential value of the secondary trading is based upon book reserves, not on present sales. It is the known extractable volume of oil that can be brought to bear on a market in response to changing dynamics that determines the attractiveness of shares.
That makes the Aramco reserve figures decisive and brings to the fore the rising scuttlebutt about Saudi field problems.
A corrosion problem is expanding at the major offshore Manifa field. The situation has been known for some time. But it has reached a point that Aramco officials can no longer dismiss. Manifa is the largest Saudi offshore field, having a targeted level of 900,000 barrels daily once the two-phased development kicks in.
The situation has been acknowledged by Sadad Al Husseini, a former Aramco VP. He claims the problem is a minor technical situation. On the other hand, my sources currently in the Aramco administration consider it a more challenging problem, one that could end up closing the entire expected 900,000-barrel total.
Corrosion is a growing concern for production levels and the geological integrity of underlying reservoirs at other major fields, including Ghawar (by far the world’s largest), and is morphing into a major impediment. As the problems of corrosion and related scaling intensify, primary production wells could be blocked if no solutions are found.
And to date, nothing has worked except for traditional “migration in place,” i.e., moving crude to centralized reservoir locations for more concentrated extraction. While this may retain bottom line estimates of reserves, it also discounts their effective support of share value.
At the same time, Saudi Arabia’s export volumes have been hit by high local summer demand for crude oil and products. Riyadh has already announced that it will cut August overall crude oil shipments by around 600,000 barrels a day to counter the rise in domestic demand.
Saudi exports next month could decline to 6.6 million barrels a day, with most of that cut made in exports to the US and Asia. Saudi sources estimate that volumes coming to the US will be below 800,000 barrels, with Asian exports cut at least 200,000 bpd to 3.5 million a day. Europe’s imports will be only down by 70,000 bpd, reaching a level of 520,000 bpd.
New Saudi investment in technology and working capital is essential. Aramco’s announced $300 billion in investments over the next decade will largely focus upon keeping existing projects operating. The push initially expected to open satellite fields will be delayed into the future.
There is also a renewed drive to increase natural gas production. There are three pressures at work here. First, the government needs to meet rising local demand for electricity. Second, the increasing reliance on gas frees more crude oil for export (and revenue generation). Third, the gas would be injected as secondary recovery at oil fields.
This third factor is the most important for the Aramco IPO valuation, since it allows a higher overall level of arguable reserves subject to extraction. But that also comes at a price.
Aramco has for some time relied on early secondary and enhanced oil recovery (SOR/EOR). I was shown a new minor production field awhile back with 22 wells. Upon closer examination, 18 were water injection and only four were production, and this at a field only opened for a few months. This is certain to adversely impact geological integrity, a matter already evident at much larger fields.
Unfortunately, the corrosion problem is not helped by replacing high saline content water with injected gas. That’s because the gas, as with crude oil, is very sour. And that sulfur becomes an even greater threat for both corrosion and the resulting scaling.
Corrosion is a broader problem in the region. Take Qatar, now in an intense and bitter diplomatic controversy with the Saudis. Qatar Petroleum has only been able to maintain crude oil production on its main offshore oilfield Al Shaheen through heavy investments from its former joint-venture partner Maersk Oil. After the Danish concession, the operations are set to be led by French oil major Total. Al Shaheen produces some 300,000 barrels a day from 33 platforms and almost 400 wells.
The challenges for this field are increasing. Doha for the past four years has requested foreign operators to come up with plans to address recovery rates. Word is that over $1.5 billion has been spent by Maersk, but not even this has been able to maintain current production levels. The amount and sour nature of associated gas is preventing any increase in output. French Total has better experience with these problems. While there has been no “official” statement from the company, sources there acknowledge that corrosion and scaling will likely reduce overall extraction levels. Other Qatari fields are experiencing similar problems.
This dynamic may have a more pronounced impact on aggregate OPEC production and exports moving forward. The situation will at least require significant additional investment. With the collapse occurring at PDVSA in Venezuela and the uncertainty of additional sustainable exports from Libya or Nigeria (neither at the moment subject to the OPEC production cap/cut regimen), the overall picture for lowering OPEC exports is improving.
That may provide some support for rising prices. For the Saudis, and the valuation of the Aramco IPO, that could only be welcome news.