Why The World’s Largest Oil Company Won't Cut Dividends

Despite a 44 percent drop in its 2020 profits, the Saudi Arabian government has instructed majority-state-owned Saudi Aramco to stick to the US$75 billion per year dividend payout for shareholders that it pledged at the time of the company’s initial public offering (IPO) in December 2019. Sticking to such a huge dividend payout – a guaranteed US$18.75 billion paid every quarter – has necessitated a significant cut in Aramco’s capital expenditure in the coming year that will damage the company’s prospects for growth and even the sustainability of its current operations. So why does the Saudi government not just reduce the dividend payable to Aramco’s shareholders instead?

The basic answer to this often-asked question is that without such a massive payment being guaranteed virtually no one would have bought the shares in the first place and few would hold on to them now. This failure then or now would be highly dangerous for the de facto ruler of Saudi Arabia, Crown Prince Mohammed bin Salman (MbS). It should be remembered that MbS was only appointed as Crown Prince in June 2017, unprecedentedly taking over the role from Mohammed bin Nayef (MbN), a direct-line grandson from the founding father of the modern Saudi Arabia, King Abdulaziz. From that point, the jostling for succession after the current, frail King Salman dies between the two groups of supporters became even more energised. It was in this febrile atmosphere that MbS hit upon the idea of internationally listing Aramco as a symbol of the new Western-style, commercially-minded but socially-aware, savvy oil player that he wanted it to be seen as. Vital to this cornerstone strategy to ensure his succession as king – not to mention his very survival as Crown Prince – was that the Aramco IPO was seen as a palpable success and he himself set the metric for this appraisal: that the value of the intended 5 percent stake sold in Aramco should place a total value on the company of at least US$2 trillion. With an eye on bolstering his wider support amongst his own people as well, MbS made it clear that the new money coming in from the Aramco IPO would go into his ‘Vision 2030’ development plan that seeks to diversify Saudi Arabia’s economy away from its reliance on oil and gas exports.

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The basic problem for him achieving his own targets was that the more that international investors came to know about Saudi Aramco’s operations, the less they wanted to take any part in it. This included all of the lies about its crude oil reserves claims, spare capacity claims, output claims, terms of its oil concessions claims, and independence from government influence claims, among other toxic elements for investors. This meant that by the time that the company was finally floated at the very end of 2019, it was not a 5% stake that MbS was able to sell but just 1.5% in the IPO window. It was also not at a value that would put a total value on Aramco of US$2 trillion but rather at a listing price per share of SAR32 (US$8.53), which implied a total value for Aramco of US$1.7 trillion. Worse still was that not a single major (or minor, for that matter) international stock exchange had wanted Aramco to list on it and that even in order to sell the 1.5% stake sold in the IPO, MbS’s team had to resort to tactics that did his reputation no good at all internationally.

One of these was ‘encouraging’ the same senior Saudis who had been imprisoned and tortured in the Ritz-Carlton in 2017 (to force them to hand over hundreds of billions of riyals to the government for supposed corrupt payments that they had accepted in their business dealings, despite such payments – seen as ‘commissions’ - being a standard part of all business done in Saudi Arabia) to buy shares in the Aramco IPO. A similar-style tactic was also employed on those Middle East countries that wanted to avoid suffering the same fate as the blockade of Qatar by Saudi Arabia in 2017, which bought Aramco shares via their sovereign wealth funds and similar. Much of the remainder of the Aramco IPO was taken up by the investment vehicles of countries that sought to gain a geopolitical advantage such as China and Russia and by the investment banks working for Aramco and acting in the underwriting syndicates. Finally, Saudi nationals were promised the unprecedented deal of being able to take out new loans at a 2-to-1 ratio for every riyal that they would invest in Saudi Aramco, compared to an average leverage ratio limit for loans of 1-to-1. And it is precisely in light of this that MbS and his bankers knew that they had to offer an unheard-of massive guaranteed payment for years – in the form of the US$75 billion dividend paid every quarter – to all buyers of Aramco stock. Related: Is Natural Gas Still A Safe Bet For Oil Majors?

So, why was there so little common interest in Aramco shares? In the most basic terms, it is because Aramco’s future is highly uncertain. It could suffer a huge level of value destruction again if the Saudi lawmakers decide to launch another oil price war. The 2014-2016 Oil Price War launched by Saudi Arabia against the then still-nascent U.S. shale oil sector cost the OPEC member states collectively at least US$450 billion in revenues, according to the International Energy Agency, and caused Saudi Arabia to move from a budget surplus to a then-record high deficit in 2015 of US$98 billion and to spend at least US$250 billion of its precious foreign exchange reserves over that period that even senior Saudi officials said were lost forever.

The 2014-2016 Oil Price War also irrevocably broke the Kingdom’s most important relationship in the world, established with the U.S. in 1945 in a deal signed by then-U.S.President Franklin Roosevelt and then-Saudi King Abdulaziz. The deal was, simply: the U.S. would receive all of the oil supplies it needed for as long as Saudi had oil in place, in return for which the U.S. would guarantee the security both of the ruling House of Saud and, by extension, Saudi Arabia. After the 2014-2016 Oil Price War, this effectively changed to: in return guaranteeing the security both of the ruling House of Saud and Saudi Arabia, Saudi Arabia will supply the U.S. with all of the oil it needs for as long as Saudi has oil in place and will allow the U.S. shale oil sector to prosper and to grow. After the 2020 Oil Price War broke this final pledge yet again, then-U.S. President Donald Trump directly told MbS during a telephone call on 2 April 2020 that unless OPEC started cutting oil production – that is, stopped the oil price war - he would be powerless to stop lawmakers from passing legislation to withdraw U.S. troops from the Kingdom. In addition, it was made very clear by Trump that he expected from then on that the next time that the Saudis tried to destroy the U.S. shale sector it would be the end of the 1945 Agreement, with no further warning, and that U.S. military would be withdrawn immediately.

Even if new president Biden did not go through with his predecessor’s threats in the event that Saudi Arabia does start another oil price war, he can use the ‘No Oil Producing and Exporting Cartels Bill’ (NOPEC) threat that was taken to the line as well both by Trump and before that by George W. Bush. At the beginning of 2019, a committee from the U.S. House of Representatives approved the NOPEC bill that would have a broad mandate, making it illegal to artificially cap oil (and gas) production or to set prices, which is precisely what OPEC and Saudi Arabia attempt to do. It would also immediately remove the sovereign immunity that exists in U.S. courts for OPEC as a group and for its individual member states. This would leave Saudi Arabia open to being sued under existing U.S. anti-trust legislation, with its total liability being its estimated US$1 trillion of investments in the U.S. alone. The U.S. would then be legally entitled to freeze all Saudi bank accounts in the U.S., seize its assets in the country, halt all use of U.S. dollars by the Saudis anywhere in the world (oil, of course, is denominated in U.S. dollars), and to go after Aramco and its assets and funds, as it is still a majority state-owned production and trading vehicle. It would also mean that Aramco could be ordered to break itself up into smaller, constituent companies that are not deemed to break competition rules in the oil, gas, and petrochemicals sectors or to influence the oil price. Effectively, this would reduce the value of Aramco to zero.

By Simon Watkins for Oilprice.com

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