Saudi Aramco Valuation Is Far From $2 Trillion

(Bloomberg Gadfly) -- My colleagues at Bloomberg News scored a Saudi Aramco-sized scoop Friday morning, detailing  some financial data on the oil behemoth. So what does it tell us?

Saudi Arabian Oil Co. is fantastically profitable, with net income of about $34 billion in the first half of 2017, according to figures reviewed, more than four times what Exxon Mobil Corp. earned in that period. Implied costs of production, including overhead and depreciation, appear to be less than $10 a barrel. Given that Brent crude oil averaged only about $53 a barrel back then, and Aramco was only pumping about 9.9 million barrels of crude oil a day, the implication is this year's profits will be positively yuge.

For prospective investors in the potential initial public offering, though, what matters is how much of that translates into free cash flow and what kind of risk premium gets put on it.

A month ago, I did a very rough calculation of what Aramco might be worth, using a smorgasbord of assumptions. At $80 a barrel, 11 million barrels of crude oil a day, $40 billion of annual capital expenditure, and a 7 percent free cash flow yield, I got a valuation of just under $1.5 trillion. That's a lot of money, albeit a bit below the $2 trillion Saudi officials appear to want.

The new data don't help on that front. Adjusting my assumptions based on these figures yields a new valuation of about $1.2 trillion.

Where did that value go?

One big difference is how much of a royalty the Saudi Arabian government takes off the top of each barrel of oil produced. In my earlier calculation, I assumed a flat 20 percent of revenue. Instead, there is a sliding scale based on oil prices: 20 percent up to $70 a barrel, 40 percent on each dollar above that to $100, and then a marginal 50 percent on the each above that.

Saudi Aramco Valuation Is Far From $2 Trillion

I've assumed, as before, that natural gas and ethane production remain flat and at fixed prices, as well as natural gas liquids output being 1.4 million barrels a day at 50 percent of the crude oil price.

The figures I've seen still lack a certain amount of detail, especially in terms of the real split of upstream and downstream profits. The figures for the first half of 2017 also include a peculiar payment of around $21 billion, on a cash basis, from the government to Aramco. This could be one-off but I am assuming it largely relates to reimbursing the company for subsidies on domestic fuel sales.

Using the adjusted assumptions, here are a range of theoretical market caps for Aramco at different oil prices and free cash flow yields:

Saudi Aramco Valuation Is Far From $2 Trillion

It's important to remember that these outputs remain preliminary estimates that are still dependent on a lot of assumptions. The prospectus remains an elusive but must-see document.

That said, the implied valuations still point to a few broad conclusions.

First, indications that Saudi Arabia reportedly would like to see oil at $80 make sense in the context of the planned IPO.

Second, royalties and taxation are critical levers for the government to adjust heading into the IPO if it wants to boost the valuation. Higher government take at higher oil prices is pretty standard procedure in petro-states. But in removing some of the potential upside, it also removes some of the incentive to buy (as evidenced in other national oil company valuations).

Which leads into the third point, namely that the valuation remains very sensitive to the risk premium. A yield of about 7 percent looks like the bare minimum to me, given where other oil majors trade and Saudi Arabia's peculiar risks. A more benign taxation regime might help on that front, albeit at the cost of revenue flowing directly to the government.

Overall, though, a $2 trillion figure still looks very unlikely, absent triple-digit oil prices. And as this week's geopolitical gyrations have shown, higher oil prices would likely go hand-in-hand with a higher risk premium on Aramco's home.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

Liam Denning is a Bloomberg Gadfly columnist covering energy, mining and commodities. He previously was the editor of the Wall Street Journal's "Heard on the Street" column. Before that, he wrote for the Financial Times' Lex column. He has also worked as an investment banker and consultant.

To contact the author of this story: Liam Denning in New York at

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