Aramco's IPO: A Pandora's Box for Saudi Arabia

Saudi Arabia's Deputy Crown Prince, Mohammad bin Salman, has reportedly embraced a report from the management-consulting firm of McKinsey and Company, entitled Vision 2030, as his blueprint for weaning the Saudi economy from oil and laying the foundations for a thriving private sector. In conjunction with this much-publicized initiative, he has also decided to sell a 5-10 percent stake in the country's national oil company, its crown jewel--Aramco--through an initial public offering (IPO). A number of international investment banks will reportedly manage the IPO and Aramco's market capitalization is expected to be in the vicinity of two trillion dollars, a newly listed company with the largest market capitalization on the planet.

The pricing of shares in IPOs is determined by financial and industry experts on the basis of the company's economic and financial data and prevailing market conditions. In the case of a 'normal' oil company, this would be based on extensive geological findings of recoverable reserves, average and marginal production cost of a barrel of oil from these reserves, current and projected price of oil and ultimately on discounted annual earnings of the company after all applicable taxes. Would these requirements and projections be followed in the same format for an Aramco IPO? We believe not because the calculations would require extensive intrusion into what have been guarded secrets in Saudi Arabia and Saudi Arabia's acceptance of a number of highly sensitive covenants.

First, the details of Saudi Arabia's claims to Aramco's stated oil reserves would have to be independently verified on the basis of confidential geological surveys in the hands of the Saudi government and additional surveys as needed.

Second, Saudi Arabia would have to disclose heretofore-secret data on oil production cost in all wells to allow independent estimation of the production cost of a barrel of oil from different fields in the kingdom.

Third, Saudi Arabia would have to reveal all operating financial figures on Aramco to facilitate earnings and financial projections.

Fourth, there would need to be detailed clarification of what are the ownership boundaries of oil fields for the newly listed Aramco. Does all oil in discovered and undiscovered fields belong to Aramco or is its ownership restricted to the boundaries of all discovered fields?

Fifth, as Aramco would be subject to all laws and taxes imposed by the government of Saudi Arabia, what concessions and covenants would be required to give investors the needed assurances that the government would not impose capricious taxes and requirements that could benefit the Saudi Treasury and penalize investors?

Sixth, and related to the previous point, Saudi Arabia has traditionally run all its ministries and publicly owned companies with a preference of employing Saudi nationals at a higher salary than afforded in the private sector; and with a level of employment that includes a large degree of redundancy. Would Saudi Arabia provide a covenant that such financially wasteful practices would be terminated in Aramco when it was listed?

Seventh, as the majority stockholder in the new Aramco, what assurances would the government afford investors that it would not use oil as an economic or political instrument of its foreign policy that could adversely affect Aramco's earnings? In other words, would Saudi Arabia agree to covenants that affirmed that Aramco would be managed as a 'normal' profit-maximizing firm for the financial benefit of its stockholders and free from all political interference?

Eighth, the IPO will reportedly be for 5-10 percent of the shares in Aramco, with the result that the Saudi government would retain the overwhelming share of the traded company. But Saudi Arabia belongs to OPEC, a recognized cartel the world over with collusion as its modus operandi to establish higher prices than those that would prevail in a free market. Would Saudi Arabia's association with OPEC represent a barrier for the listing of the stock on major stock exchanges around the world, something that would enhance its liquidity and attraction and be essential for most foreign investors? If its OPEC membership poses a problem for listing and for a variety of legal considerations, would Saudi Arabia be willing to abandon its membership in OPEC?

This list, which is by no means exhaustive, points to two important facts. For the IPO to succeed, Saudi Arabia will have to disclose a great deal of facts and figures that it has traditionally viewed as state secret and it will have to change many of its economic and financial policies and legal practices that may be deemed objectionable to foreign investors. The question is whether Prince Mohammad and the Al-Saud clan are willing to accept these and much more disclosures, intrusions and covenants to make Aramco's IPO a financial success?