Saudi Aramco tested by deglobalization and energy transition
Al-Monitor Pro Members
President, Competitive Energy Strategies, LLC
Dec. 7, 2022
Saudi Arabia’s national oil company (NOC), Saudi Aramco, is deeply enmeshed in a national project to build a new, more sustainable economy, and to perpetuate Saudi rule in the Kingdom of Saudi Arabia (KSA). To build more complex economies, greater state capacity is needed, requiring new organizational arrangements and capabilities. No institution in the kingdom has more capacity than Saudi Aramco. From its perspective, the NOC is actively engaged in the kingdom’s transformation but seeks to protect its institutional prerogatives, in order to avoid losing its operational and strategic independence.
Since nationalization in the late 1970s, Saudi Aramco has been the state’s instrument to manage global oil prices via OPEC market management. In the late 2000s, it gained the right to pursue a strategy to become a large global refining company. This Accelerated Transformation Program continues through the acquisition of captive refineries in Asia and elsewhere while building upstream capacity at home.
During the next ten years the NOC will be indigenizing its supporting service sector, building a high-tech petrochemicals portfolio and applying energy transition technologies at home and abroad. These plans call for the largest and most diversified capital projects portfolio it has ever outlined.
There are technical risks throughout the upstream oil, unconventional gas resources, master gas system expansion and carbon capture & sequestration (CCS) programs, but those speak to existing strengths and experience. The chief risks to successful execution are gaining further access to refining and petrochemical assets in key markets, notably Asian markets, creating a competitive local service sector which can serve it, and building new efficient renewables businesses (hydrogen for example), uncharted markets and novel ventures abroad, as opposed to Saudi Aramco’s own back yard.
There are also broader concerns regarding the global business environment. Regional risks include the Saudi-Iranian cold war which turned hot when the Iran Revolutionary Guard Corp targeted its central crude processing facility a few years ago or enemies in Yemen launched attacks on Saudi Aramco’s ports, refineries and transport infrastructure. These risks have declined but have not disappeared; the threat impacts foreign investor behavior, delays projects and increases financing costs.
There are also emerging global risks. As a more independent minded KSA pursues political and commercial relationships with a variety of actors on the world stage in a geopolitically transformative world where the US and Europe are at odds with Russia and, more importantly, China, there is danger for Saudi Aramco’s strategic plans to be enmeshed in international operational, financial and technological constraints and sanctions. A cold war would not be good for Saudi Aramco.
Much of Saudi Aramco’s success is due its operational autonomy, which determines the ability to independently choosewhich projects to invest in and appropriate service sector partners, and employ skilled personnel. Greater operational autonomy goes hand-in-hand with increased capabilities. The lack of autonomy from local economic and political power groups, as seen in many other oil producing countries, has rendered their NOCs much less capable. With the sole condition it produces oil at levels according to KSA’s OPEC policy dictates, this NOC has total operational autonomy. Saudi Aramco takes pride in being in Dhahran and far from Riyadh.
Saudi Aramco’s strategic autonomy has been more limited. As long as it was solely an oil production company owning a few refineries to serve the home market, this didn’t matter. While its strategic objectives had to be approved by its sole shareholder, the KSA, it did gain considerable strategic autonomy in the implementation of the Accelerated Transformation Program in the late 2000s even as it was tasked to assist in various difficult projects and provide subsidized natural gas to support a burgeoning domestic petrochemicals sector. After the onset of Vision 2030 and the ownership change to the Public Investment Fund (PIF), the Dhahran-based company is closer to Riyadh. Other directives include the Sabic acquisition and to invest in a 13 million b/d sustainable, oil production capacity.
The PIF’s primary asset, Saudi Aramco, is its main means to leverage the company’s worth and use those funds for growing a new non-oil based economy. As a result, it continues to be a vital income source to the state, but now the future growth strategy of the entire economy is dependent on its value. This opens up the potential for political interference and loss of the strategic autonomy earned in the 2000s.
Determining factors for strategy
Saudi Aramco is the largest crude oil production company on the planet. Its natural resource portfolio rivals all others in terms of its combination of low cost and size.
Applying scale efficiencies maintains operating costs (on-the-field) at less than $5 per bbl, among the lowest in the world. It does, however, have higher, above-the-field costs, due to administrative overhead, retaining expensive expat personnel and providing costly benefits to its local and foreign staff.
The corporate focus on the Asian energy market is a critical determining factor in its strategy. Recognition of Asian demand growth for the last 20 years and the next 50, has played a key role in the organizational structure of its marketing and trading operations.
Maintaining operational autonomy.
Expanding upstream crude oil production capacity to a sustainable 13 million b/d.
Becoming a global leader in CCS.
Building an unconventional natural gas production base.
Expanding the Master Gas System.
Four-fold expansion of its liquids to petrochemicals objectives.
Testing and constructing a significant hydrogen and ammonia export capability.
Creating its own higher technology, service sector via joint ventures with global technology and service companies.
Meeting the growing financial requirements of the government.
Success and failure
Saudi Aramco is a classic asset management company, inward looking, focused on scale efficiencies, technical excellence, minimizing risks and maximizing financial returns. This stands in contrast to business development companies, outward looking, risk-taking, focused on asset growth, new entry, partnering and transactional skills.
Much of its priorities are well known to Saudi Aramco. The large, unconventional gas drilling program does push the boundaries of its highly experienced upstream business. The CCS program will rely on the firm’s superior reservoir knowledge, but its most challenging aspect is how to capture carbon and minimize the cost of doing so.
There are of course technical challenges to the hydrogen/ammonia and the liquids to petrochemicals objectives, and these are not small, but the chief risk to successful execution is the difficulty in doing business deals in other parts of the world, as opposed to Saudi Aramco’s back yard. A global market for ammonia and hydrogen needs to be built. New market development is painstaking and takes time. The inevitable regulatory and competitive delays and challenges introduce more complexity and execution risk. Saudi Aramco does not like to take risks.
Scenario 1: There is a substantial failure of Saudi Aramco’s business plan, specifically its international components due to the complexity of a large, diversified program, challenges confronting new business creation and market development. The NOC’s institutional capabilities will safeguard the great majority of its domestic business objectives. But the relative lack of commercial skills, market building and executing overseas acquisitions, joint ventures and technology agreements, could hamper its global ambitions. An aggressive, overreaching Saudi government could erode its operational autonomy, in responses to policy and foreign political choices KSA might make. The result would be a diffuse corporate focus and stalled progress on much of its overseas programs. All of which negatively impacts Saudi Aramco’s operational and financial performance.
Scenario 2: This scenario is defined by a changing global business environment, wherein the KSA is an increasingly active player. A de-globalizing world where the US is aggressively competitive with China, and other large economies have varied positioning strategies, is much more complex. The more the KSA pursues additional (if not different) political and commercial relationships in a world where the “West” is at odds with Russia and more importantly China, the more potential there is for Saudi Aramco’s strategic plan to be tested in markets where the rules are changing. Assets and business plans will be subject to international financial constraints and even sanctions. The risk that Saudi Aramco’s strategy will be hemmed in by legislation and sanctions from Western governments in response to a de-globalizing world is much higher. The net result would be an increasingly, inward focused NOC with a high degree of focus on domestic operations. Saudi Aramco would end up as a price-taking crude oil exporter in a declining demand global market.
Conclusion - Most Likely Scenario:
The most likely scenario would be that Saudi Aramco efficiently executes its crude production capacity, unconventional gas, and domestic renewables programs but faces some delays in its CCS goals, and hydrogen/ammonia and liquids to petrochemicals expansion programs. The challenges will be in new market and business development with powerful, other local actors and businesses, alongside the possibility of a KSA geopolitical strategy encroaching onto Saudi Aramco’s operational autonomy. The result will be impairment of financial performance.
Saudi Aramco is more likely to be successful in a globalizing world, where superior cost and scale efficiencies, and market knowledge hold their greatest sway. These aspects deliver less in a world of politically constructed higher barriers to entry into differing regional markets.
Saudi Aramco’s role is much more fundamental than generating revenue for the government. The KSA risks its engine of growth and change as it seeks to make badly needed internal changes in its domestic economy and navigate this coming world.
Gerald Kepes has more than 35 years of experience as a consultant and petroleum geologist in the global energy industry. Most recently, he was vice president in energy & natural resources for IHS Markit, and previously, a PFC energy partner, where he established PFC’s global upstream consulting practice. He also held various positions with a US oil company in North Africa and the Middle East.
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