from Energy Realpolitik and Energy Security and Climate Change Program

IPO Politics and the Saudi U.S. Visit

Saudi Arabia' oil minister and chairman of Saudi Aramco Khalid A. Al-Falih arrives as Crown Prince Mohammad bin Salman meets Britain's Prime Minister Theresa May in Downing Street in London, March 7, 2018. (REUTERS/Simon Dawson)

March 19, 2018

Saudi Arabia' oil minister and chairman of Saudi Aramco Khalid A. Al-Falih arrives as Crown Prince Mohammad bin Salman meets Britain's Prime Minister Theresa May in Downing Street in London, March 7, 2018. (REUTERS/Simon Dawson)
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This post is co-written by Jareer Elass, an energy analyst who has covered the Gulf and OPEC for 25 years. He is a regular contributor to the Arab Weekly.

This week, Saudi Crown Prince Mohammed bin Salman begins his two-and-a-half week-long visit to the United States—including a March 20 White House meeting with U.S. President Donald Trump. Top of the Saudi agenda will be to further cement close political ties between the three-year-old regime of Saudi King Salman Bin Abdulaziz Al-Saud and the Trump administration. That could be harder than it looks if President Trump brings up a request for Saudi Arabian financial support in Syria. Russia has also been publicly out hat in hand to the EU on Syria while behind the scenes trying to shake down Saudi money for Syria as part of its oil collaboration with Riyadh. Saudi Arabia is unlikely to support any peace process on Syria that sustains strong Iranian influence. Beyond the geopolitical, the crown prince is focused on the Saudi economy and wants to bring American business to Saudi Arabia.

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Regardless of how these complex topics play out, there’s no doubt that the young Saudi leader will have to be in public relations mode. Crown Prince Mohammed has already kicked off his trip with a long interview aired on the American TV news magazine 60 Minutes, in which he controversially indicated Saudi Arabia’s willingness to enter the nuclear arms race alongside chief rival Iran. The subject will be a tricky one: while Saudi Arabia and the United States share a common view that Iran is a destabilizing force in the region, the U.S. has been resistant to Saudi lobbying that standards for a U.S.-Saudi nuclear deal should allow either reprocessing spent fuel or enrichment of uranium.

Washington Post columnist David Ignatius’s suggestion that Saudi Arabia try to cozy up to the United States by suspending its oil deal with the Russians to punish Russian leader Vladimir Putin for a recent string of unacceptable actions is also fraught with peril. That's because Putin could similarly be thinking that falling oil prices would hurt Saudi Arabia’s stability more than his own. The kingdom is vulnerable on the oil price front both due to domestic economic pressures and to lofty oil price levels needed to support the Aramco IPO valuation process. Analysts calculate that a sustained oil price around $70 a barrel is needed for the kingdom to hit valuation targets for the IPO consistent with the $2 trillion valuation used in announcing the plan.

Raising the stakes, the Saudi crown prince’s visit to the United States follows a similar tour recently led by the Saudi foreign minister that failed to convince potential American investors that the current and future political climate in the kingdom is not a risky one. The tepid response from U.S. institutional investors during the road show makes the New York Stock Exchange (NYSE) increasingly unlikely to be favored as a final choice for the foreign bourse to be selected by the Saudi regime for the Aramco IPO. It has also made the timing of the listing murkier, thereby lengthening the time line for how long Saudi Arabia could need its cooperative oil arrangement with Russia to last.

The Saudi case for the durability of its own political stability was shaken by reports in the New York Times last week of the Saudi government using “coercion” to wrangle billions of dollars’ worth of assets from targeted prominent Saudis, including members of the royal family. The report made clear that the campaign of intimidation against individuals who have been singled out for their alleged corruption is continuing, raising questions about the Saudi government’s end game.

There have been several constants in what the Saudi government has said over the last two years about its intent to sell a stake in Saudi Aramco. When the IPO was first announced, it was said to involve a sale of up to 5 percent of the state firm, with a listing on the Saudi stock exchange as well as on one or more foreign bourses. According to the crown prince, Saudi Aramco’s valuation could be appraised at more than $2 trillion, with the Saudi government collecting as much as $100 billion from the limited sale.

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The Saudi regime has grappled with choosing an appropriate foreign listing from the outset amid concerns about the leading exchanges under contention—the NYSE and the London Stock Exchange (LSE)—and the fact that the stated valuation of 5 percent of Saudi Aramco could be hard to achieve. Meanwhile, the International Monetary Fund (IMF) has estimated that an average $70 a barrel is what the kingdom would need to balance its 2018 budget, though it has endorsed the kingdom’s decision to delay achieving a balanced budget until 2023 in an effort to avoid economic damage as Riyadh slows its pace on implementing fiscal reforms.

Industry experts have been skeptical of the official projected valuation of the state oil firm, and indeed, by some accounts, the math doesn’t appear to work in Saudi Arabia’s favor, unless oil prices rise significantly and other criteria are met.

Moreover, the kingdom’s new $70 a barrel price goal, which seems linked to the Saudi IPO conundrum, has divided members of the Organization of Petroleum Exporting Countries (OPEC), some of whom have been saying too high a rise in oil prices could be deleterious to OPEC’s future. Iran has publicly stated its preference for prices at around $60 a barrel because it believes that $70 could backfire on the group, prompting U.S. shale companies to bump up their output and a long run weakening of demand for oil, resulting in an uncontrolled collapse in future oil prices.

The crown prince’s London visit has fueled rising speculation in recent months that the IPO would be delayed beyond 2018. Oil Minister Khalid Al-Falih in a March 8 interview referred to a 2018 deadline for conducting the IPO as an “artificial deadline”, noting that the “anchor market will be the Tadawul exchange” but emphasized that the kingdom has the necessary fiscal and regulatory framework in place for Saudi Aramco to be listed this year.

Falih has also suggested that his government saw major issues associated with choosing the NYSE for a foreign listing of Saudi Aramco shares, saying that “…litigation and liability are a big concern in the U.S. Quite frankly, Saudi Aramco is too big and too important for the Kingdom to be subjected to that kind of risk”

While Falih pointed to New York City’s decision earlier this year to sue five major oil firms over the “existential threat of climate change” as a concern, the Saudi government is equally worried about the ability of families of 9/11 victims to sue the Saudi government under the “Justice Against Sponsors of Terrorism” Act that was passed by the U.S. Congress in September 2016.

During his London trip, the Saudi oil minister praised the LSE, saying that, “The London stock exchange is one of the best in the world, it is well-regulated and we respect it.” But, floating Saudi Aramco shares on the LSE is not without controversy. The U.K.’s chief financial regulatory body came under fire in the spring of 2017 when it recommended easing LSE rules to allow state-owned companies like Saudi Aramco to qualify for premium listing without being subject to the strictest corporate governance rules.

The Hong Kong exchange could be a convenient compromise for the Saudi government in its pick for a foreign bourse on which to list Saudi Aramco shares. And then there is also talk of the Saudi government forgoing an IPO entirely and favoring a private sale to strategic investors, or a combination of a listing on the Tadawul and a private sale. This would be beneficial if the Saudi regime believed it was going to fall far short of the $2 trillion valuation and of course, it would free the kingdom from having to be overly transparent about its finances and operations as required by some foreign exchanges. But U.S. officials have argued that a private placement with Chinese firms would not provide many of the structural benefits that come from undertaking a public listing.

It would be surprising if the Saudi government failed to float Saudi Aramco shares on the Tadawul, given how the public expects to participate in the IPO and the desire for Riyadh to help build the Saudi exchange into the premier bourse in the region. But, one of the biggest concerns about a Saudi Aramco listing on the Saudi exchange is the lack of liquidity due to the Tadawul’s size. The Saudi exchange is small compared to major foreign bourses—with a market capitalization of around $470 billion and 171 listed companies, a stark contrast to the scale of the NYSE, which has a capitalization of $21 trillion and more than 2,000 listed companies.

Tadawul officials have been preparing for the listing and have even recommended the Saudi exchange be the sole bourse for the Saudi Aramco sale. But, there is real concern that the Tadawul will not be able to absorb up to 5 percent of Saudi Aramco shares on offer, and that a large sale could cause much volatility on the domestic exchange, with the potential for investors to shed other company stocks rapidly to raise funds as they buy up Saudi Aramco shares.

In fact, according to a recent report from the Energy Intelligence Group, the Saudi regime is reportedly calling on members of the royal family and wealthy Saudi businessmen to commit to injecting new funds into the Tadawul and to purchasing Saudi Aramco shares in a drive to prevent a destabilization of the domestic stock market when the IPO is launched on the local exchange.

The Saudi Aramco IPO is the linchpin of the crown prince’s ambitious economic revamping program known as Saudi Vision 2030. Proceeds from the sale are to be directed to the kingdom’s sovereign wealth fund, the Public Investment Fund, which in turn will make investments designed to move the kingdom away from being an oil-driven economy. Though the Saudi regime has made progress on some economic reforms, the Saudi Vision 2030’s agenda to fundamentally transform the kingdom’s economy greatly depends upon the success of the limited sale of Saudi Aramco. That has injected a certain level of inflexibility into the kingdom’s oil policy that makes any talk of Saudi oil cooperation with the United States against Russia a lower probability course of action than it was in the past.

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