SMITH BRAIN TRUST — Saudi Arabia has announced a plan to spin off about 5 percent of its state-owned oil company, Saudi Aramco — which, at $2 trillion (some estimates are even higher), may be the most valuable company on Earth. Proceeds from the sale would be poured into a fund that would be used to help diversify the nation's heavily oil-dependent economy, which currently gets 90 percent of its revenue from oil. In fact, Deputy Crown Prince Mohammed bin Salman said last month he wanted the country to be free of oil dependence by 2030, branding this goal "Vision 2030."
At the same time, the country's leaders — including a new oil minister, Khalid al-Falih — said Saudi Aramco would soon increase production from 10.2 million barrels a day to 11 million or more.
Considered collectively, these moves raise as many questions as they answer, says Charles E. Olson, a professor of the practice at the Robert H. Smith School of Business and director of the school's business honors program.
From an investor's perspective, buying a sliver of Saudi Aramco would be a dicey move, he says. For one thing, the bulk of the company would still be owned by the state, which may or may not act with investors' best interests in mind. The gulf nation has always used oil to pursue geopolitical goals and not just economic ones, and the privatization of a sliver of the company hardly seems likely to change that pattern of behavior, Olson says.
A private company, Olson notes, would try to increase the value of its product in advance of an IPO, not decrease it. Yet by pledging to increase production, Saudi Arabia is taking the latter route. "Saudi Arabia is clearly afraid of Iran, which has oil assets, but not nearly what Saudi Arabia does," Olson says. "So Saudi Arabia wants to hold the price of oil down, so that Iran can't develop their military, can't develop nuclear weapons. They are also hurting the Russians, the Iranian's buddies."
"All of that makes sense from a geopolitical standpoint," Olson says. "It's just hard to see how the partial privatization fits into the picture."
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Given that so much of what happens in Saudi Arabia amounts to an inscrutable black box. "Investors just don't know what they'd be getting," Olson asks. Some commentators have wondered if Saudi Aramco is ready for the scrutiny, and mandatory disclosures, that would follow if it were listed on a major exchange in London or New York.
Saudi Arabia's increased oil production in recent years has wreaked havoc on the economies of fellow OPEC members Venezuela and Nigeria, who have begged for production caps — to the point where people wonder whether OPEC is a functional body anymore — and put pressure on higher-cost American shale-oil producers. The policy has also put considerable pressure on Saudi Arabia itself.
Olson suspects there may be "a bit of a bluff" in the announcement of a production increase. "It's not going to be that easy to increase production to 12 million barrels a day," Olson says. "The current level, 10 million barrels, has led to a price that's basically the 'lifting cost'—the price of getting the oil out of the ground. If they want to get to 12 million barrels, they are going to have to spend serious money."
The bluff is aimed partly at Iran, Olson thinks — to keep the regional adversary off-balance — but also partly at the United States, as well. And it seems to have at least partly worked. U.S. banks are spooked, Olson says — increasingly unwilling to lend to smaller American oil producers, whose operations may not be sustainable if the price of oil drops further.
That drop in the price of oil has already been astonishing — from a 2014 high of $115 a barrel to less than $30 in January.
Where Saudi Arabia may have gone wrong last week, Olson suggests, was in trying to present an array of barely linked and sometimes even contradictory policies as a single unified initiative. "It's possible that the sale of their oil assets may end up being simply a diversion," he says. The Saudis also face political challenges on several levels: Pushback from conservatives led to a scaling back of a plan to integrate more women into the workforce, for example. (The modest goal now: Bumping participation up from 22 percent to 30 percent over 15 years.) As for the oil policy, Olson says, "In all probability things will still be fuzzy in six months."