Cover Story: Saudi Aramco’s IPO
Saudi Arabia’s historic decision to list part of energy giant Aramco is expected to lead to the biggest IPO in the world. Gulf Business looks at what this could mean for the future of the kingdom
What could potentially be the world’s biggest IPO is set to take place in Saudi Arabia. Will it mark the start of a new era in the kingdom?
Aramco is the most profitable company in the world, dwarfing all its competitors. In 2018 alone, the Saudi giant (with net earnings for the year standing at $111.1bn) made more than Apple, Google and ExxonMobil combined. However, despite its profitability, the recent Aramco IPO announcement sent ripples around the world, pluralising opinion. Bookrunning for the IPO began on November 17, and ended for retail investors on November 28. It is is due to end for institutional investors on December 4, with the final share price available from December 5, just in time for the next OPEC general meeting. The meeting, set to be held the following day in Vienna, Austria, will see key players in the global oil industry gather to agree on oil supply policy for 2020.
Predictions suggest that the IPO – which has been four years in the making– is likely to result in the oil giant being listed on Saudi Arabia’s Tadawul stock exchange by the second week of December. The result would be a potential 1,500 foreign investors in the Saudi-based company for the first time in more than 30 years.
Although the number of shares initially available in Saudi Aramco (predicted to be around 1-3 per cent) represents a relatively small part of the company, the move could still have significant implications for the wider Saudi economy. Vijay Valecha, the chief investment officer at Century Financial explains: “With the offering likely to become the world’s largest, the listing will boost the overall foreign participation in the Saudi markets. Arguably, this will be further boosted by the inclusion of Saudi Arabia in the MSCI Emerging Markets index. Over the long term, the IPO will most likely lead to better integration of the Saudi economy with the outside world.”
Michael Tamvakis, a professor of commodity economics and finance at Cass Business School, agrees about the short term prospects. “The IPO opens a small window for the rest of world – investors and public alike – into the world’s biggest oil company. It is not so much the ownership of Aramco which is important here – as it will be such a small part of the company – but the implied valuation that the company receives from the market and how this valuation will change as oil demand, supply and prices change. Rather than trying to assess the impact of oil price volatility on the public finances of Saudi Arabia, the public will be able to see the fluctuation of Aramco’s stock and market cap and from there assess the impact on the domestic stock exchange and the country itself.”
Grand plans for the Saudi economy
The part-privatisation of Saudi Aramco has been described by some experts as a litmus test for Crown Prince Mohammed Bin Salman Al Saud’s wider diversification plans for the Saudi economy under its ambitious Vision 2030 strategy. Indeed, many key financial analysts have pointed to the opening up of Aramco as a project that is likely to be used to both test the waters of further privatisation, as well as fund diversification.
“The listing only enhances Crown Prince Mohammed Bin Salman’s image, he is seen as a genuine reformer,” explains Valecha.
“The billions of money raised from the IPO will help achieve the kingdom’s economic agenda of building non-energy industries and diversifying its revenue streams. It’s likely that the Aramco global listing – over the long term – will enable the realisation of key projects which are part of Saudi Vision 2030. For example, the $500bn futuristic Neom and Red Sea projects,” he continues.
However, Tamvakis is less certain: “The long-term impact is more difficult to assess,” he explains. “Whether the ultimate goal to diversify the Saudi economy will be facilitated by the Aramco IPO is anyone’s guess. Having private investors own a small part of the company may be the way to broaden share ownership for the public, which may give a sense of common purpose to Saudi nationals. It may open the way to more involvement in share ownership in general and interest in several other domestic enterprises, which could, in time, balance the size of Aramco in the domestic economy. Ultimately, however, Saudi Arabia’s long-term prospects depend on how fast it can diversify away from oil, with either a public or state-owned Aramco.”
The part-privatisation of Saudi Aramco has been described by some experts as a litmus test for Crown Prince Mohammed Bin Salman Al Saud’s wider diversification plans for the Saudi economy
Although it is too soon to evaluate the ultimate success of these projects – which are still more than a decade away from the country’s 2030 deadline for them, the IPO represents “a much needed first step” says Valecha, pointing to the fact that part-privatisation will have a ripple effect on the growth and investment of other sectors such as tourism, infrastructure and healthcare.
Indeed, both Tamvakis and Valecha agree that the move will give the average Saudi a sense of accessibility to the kingdom’s wider wealth. “The IPO will allow traditional Saudi-based ‘mom and pop’ investors to own a piece of the pie which is the world’s largest oil company,” Valecha says.
Meanwhile, Meziane Lasfer, a professor of finance at Cass Business School, explains that there could be a plurality of outcomes from the move. “The potential benefits include overcoming borrowing constraints and greater bargaining power with banks and facilitating the financing of growth using equity. Liquidity is also an important fact, because shares, unlike debt, do not contractually guarantee payment. Portfolio diversification, transparency about price, and respect with the wider market, also could play into the hand of the Saudi government,” he explains.
Patrick Harris, head of energy and natural resources at Mergermarket, however, highlights that the predicted long-term move away from hydrocarbons globally is central to the need for diversity at both Saudi Aramco and across the kingdom as a whole. “[The country] is the cheapest producer of hydrocarbons in the world, with enough resources to maintain demand until most of us are long gone. However, the use of hydrocarbons as a fuel will likely fade long before those barrels are extracted, and plastics are continually losing global appeal. Saudi Aramco will need to continue its ongoing diversification,” he explains.
The valuation question
When the Aramco IPO was first announced in November this year, the company was reportedly seeking a valuation of $2 trillion. “Last year Aramco made profits of around $111bn, and it is planning to pay dividends of $75bn next year. At the company’s desired $2 trillion valuation, that’s a dividend yield of just 3.75 per cent”, explains Valecha. That number would have set the company at nearly half the dividend yield of 6.3 per cent offered by other key emerging markets and significantly less than Western markets, which typically provide a dividend yield of 5.7 per cent.
However, following the initial announcement, the company revealed it would be adjusting the valuation to between $1.6 trillion – $1.7 trillion. However, some experts believe the valuation should be lowered to make it more competitive against the higher dividends offered by other emerging markets. “Aramco might have to offer a higher dividend to attract more foreign investors. Or to state it the other way round, a valuation of $1.5 trillion seems more realistic as it would imply a dividend yield of 5 per cent which might be necessary to entice foreign investors,” explains Valecha.
Areas which point to a lower listing are factors which often affect emerging markets, and are highlighted in the Aramco IPO
prospectus. Although, as Harris highlights, there are key areas which sets the company apart from other similar entities. “Publicly listed state-owned oil companies habitually suffer from a real, and perceived, lack of corporate governance. In many respects, Aramco is different – it has a highly competent and experienced management and workforce… It is a business that has worked cheek-to-cheek with the oil majors for decades, and its level of technical and operational competence is above most emerging market national oil companies.”
Although the final share price will not be announced until December 5, it is expected that at a valuation of between $1.6 trillion and $1.7 trillion, shares would be between SAR30 and SAR32 per share, which could raise between $24bn and $25.6bn for the Saudi government. The floatation is the result of years of work, particularly by the nine banks leading the IPO, including JPMorgan Chase, Morgan Stanley, Goldman Sachs, Bank of America and Citigroup.
An incomparable listing
The Aramco IPO will arguably provide the most significant test yet for the relatively young Riyadh-based Tadawul stock exchange. The 12-year-old exchange will be the only place in the world where Aramco will be listed. Historically, high profile IPOs have caused stock exchange systems to be overwhelmed. For example, Facebook’s IPO in 2012 on the US Nasdaq stock exchange was riddled with delays and processing issues, no doubt something Tadawul will be looking to learn from.
Tamvakis however, argues that the new IPO is incomparable, even to previous oil listings. “I don’t think it is easy to compare. Other emerging market majors tend to be state-owned oil companies, where the state still retains control, but shares are issued to a larger number of investors, in more mature stock markets. Western oil majors have to be even more transparent because of the disclosure requirements of the market they are listed in and the broad base of shareholders who own them, including financial institutions, investment companies and the general public. Saudi Aramco is a huge, global company listing on a local exchange which is relatively small [compared to the New York Stock Exchange or London Stock Exchange] and where the company will probably dwarf all other existing listed companies. There is nothing usual about Aramco’s listing,” he explains.
Valecha adds that there is an excellent potential for future overseas listings for Saudi Aramco. “Should the overseas listing happen, Saudi Arabia’s current weight of 2.6 per cent in the MSCI emerging market index is likely to increase and attract more investments,” he says.
Who is investing?
When the IPO was first announced in November, many thought that the company would split its focus between international investors and local entities, with financial bodies expecting meetings to
be announced across the US, Asia and Europe. “Some reports have suggested that China’s state-owned entities are planning to invest $5bn to $10bn in Aramco’s planned IPO. The Silk Road Fund, oil producer Sinopec Group, and sovereign wealth fund China Investment Corp are among the interested parties. The presence of anchor investors like China is definitely a big positive as this might entice other foreign investors as well, which could result in the issue being oversubscribed,” says Valecha. Other experts have indicated that Russia and other Asian countries may play a fundamental role in the IPO.
Although it will not be public knowledge who has invested in Saudi Aramco until early December, some recent reports have also pointed to a local focus in investment, with reportedly no planned meetings in the US or Europe for the IPO. Moreover, it has been suggested by some industry bodies that meetings are likely to take place between the kingdom and some of its key allies, such as the UAE, Bahrain, Kuwait and Oman. Indeed, Valecha points to the close financial ties between Saudi Arabia and Asia (and in particular, other Gulf nations) as a key indicator of future investment. “The Abu Dhabi Investment Authority, Singapore’s GIC, Malaysia’s Petronas and some other sovereign wealth funds could invest in the Aramco IPO. The strategic relationship which Saudi Arabia has with these countries could be a driving factor for the investments. For example, Saudi Aramco has a $27bn refinery joint venture with Petronas, and they themselves have $7bn in the project. UAE is another country with which Saudi Arabia has friendly relations. The strong relationship and political clout of Saudi Arabia could result in investments from multiple countries,” he says.
Locally, out of a population of around 30 million, up to one third are expected to invest in the Aramco IPO, says Ellen Wald, author of Saudi, Inc: The Arabian Kingdom’s Pursuit of Profit and Power. A figure helped, no doubt, by the fact that the country’s government is offering sweeteners for Saudi nationals to invest in the IPO. For every 10 shares bought by a national, they will get one free share if they keep them for six months following the initial date of the listing. The government has also reportedly been courting Saudi
Arabian businesses and financial institutions in the lead up to the IPO. Some have also pointed out that the listing naturally lends itself to Saudi investors, as the listing is in riyals (with dividends also paid out in the Saudi Arabian currency).
Following the flotation in December, the next crucial moment for Saudi Aramco is likely to be summer 2020. It will be the first time that individual Saudi investors, who have a six month incentivisation plan, are likely to consider selling their shares. The six-month mark will also be the next time that Saudi Aramco will be legally allowed to sell more shares, increasing the amount of private investment in the company, which could potentially impact individual share prices. At this point, the company could also look to other markets, to trade on other international exchanges. Looking further ahead, 2024 could present another key event for the company, explains Valecha. “For the year 2020, the company has promised a dividend of $75bn. This is obviously a good thing for investors who buy into the IPO, as it’s part of a promise from management to pay stable dividends till the year 2024, even if that means reducing the payout to the government. After the prescribed period, dividends will be subject to oil price risk; but with Aramco, the margin of safety is much higher on account of its low cost of operations. Given the mature nature of Aramco and the promise of stable dividends, the stock is likely to continue to appeal to income investors.”
The floatation of Saudi Aramco is undoubtedly the most significant test yet for the country’s stock exchange. Of course, any stock market investment comes with risk. As Lasfer highlights, potential investors will take into consideration the likelihood of a range of factors from investor recognition, to obligations and underpricing with the new IPO.
However, the floatation remains unprecedented in many ways, as Valecha says: “Amidst all the risks, one should not forget the reality that Saudi Aramco is literally an energy giant. It simply cannot be wished away, and it is more than capable of withstanding the risks it faces.”
Opposite page: A privately-owned petrol station supplied by Saudi Aramco in Jeddah, circa 1955. Below: Visitors watch stock movements inside Tadawul