Saudi Aramco IPO: The Wait Is Over. The Valuation Debate Has Just Begun

The world’s most profitable company, Saudi Aramco, has left many questions unanswered after announcing this weekend its long-awaited plans to list shares on the Saudi stock exchange in what will likely be the world’s biggest-ever IPO.

Most prominently, investors are none the wiser about how an IPO would value the world’s biggest oil producer. Investment banks’ estimates of the oil giant’s valuation vary wildly—anywhere from $2.3 trillion to roughly half that, at $1.2 trillion. Goldman Sachs comes in on the high end of that range. It’s also one of the 27 banks Aramco chose to market the deal to investors.

Even if Aramco debuts on the low end of the range, it will still be the biggest ever, nearly five times bigger than Alibaba’s 2014 listing.

Bigger than Apple and Microsoft, too

Nobody is disputing that the Aramco numbers are huge. The company reported revenues of $356 billion in 2018 and a net profit of $111 billion. (Yes, some companies wait to IPO after they’ve turned a profit). That’s more than the combined net income reported by Microsoft and Apple in their most recent fiscal years.

State-owned Saudi Aramco has a maximum output capacity of around 12 million barrels of oil per day, or around one in eight barrels produced worldwide.

Aramco is also set to become a big player in the global chemical industry after agreeing to buy a majority stake in Saudi Basic Industries Corp, SABIC, for $69 billion this year.

With such a portfolio, Saudi Arabia has been talking for several years about floating a portion of Aramco in what would be a revolution for a company treasured as a Saudi crown jewel.

Undershooting the prince

Crown Prince Mohammed bin Salman, who wants to sell a piece to the public to help fund the kingdom’s ambitions to diversify away from oil, has spoken confidently of a valuation of $2 trillion or more. But plans for an international listing, which would have exposed the company to the full glare of international investors’ scrutiny, has been replaced for now with a plan to list shares first on the Saudi exchange, the Tadawul.

Outlining its plans on Sunday, the company did not reveal what percentage of its shares it seeks to sell, though it is expected to be just a few per cent, less than the 5% initially envisaged. That should be cleared up when it issues a prospectus on Nov. 9; shares are expected to be listed in December.

Chris Beauchamp, chief market analyst at U.K. trading firm IG, said he was hearing that even the Saudis themselves were seeking a valuation of around $1.5 trillion for Saudi Aramco, in line with IG’s expectations.

“I don’t think the Saudis would let it go for down to $1.2 (trillion) because it would be probably too much of a prestige thing, whereas they are not going to get it to $2 (trillion) because people are too skeptical, I think, at that level.”

It was hard to say if $1.5 trillion was a realistic valuation, he told Fortune.

“Does it include enough risk premium for any geopolitical disruption, any political uncertainty in Saudi Arabia? Maybe it doesn’t. But of course if it is producing 11.6 million barrels per day, everyone will want a slice of that pie.”

He believes the IPO is likely to succeed, provided the price isn’t pitched too high, and that there will be interest from large international investors given the company’s importance. Although, he added, “if you’re a much smaller fund, or a domestic focused fund, you’d probably think twice about it.”

Aramco’s Chief Executive Amin Nasser said on Sunday that Saudi Arabia had taken the decision to float to diversify the economy and to strengthen the local stock market’s liquidity and its ability to attract national as well as international investment.

The IPO would also increase Saudi Aramco’s visibility internationally. “By sharing a lot of information, as required by any listed company, there will be a lot of analysts that will review our data and compare it with other listed companies, and we would love to have that type of comparisons, because we are a company that are proud of our results,” he said.

Investment risks include: climate change, human rights

One way to attract investors is through a big fat dividend. And the company won’t disappoint there, expecting to pay out at least $75 billion annually to investors.

Less certain is the company’s bottom line. Saudi Aramco’s profits are closely linked to oil prices, which have been depressed this year because of oversupply, the U.S.-China trade war, and weak economic growth. It’s very likely its share price will be similarly tied to the ups and downs of a barrel of crude, too.

And then there’s the not insignificant matter of the company’s carbon footprint. Investors will be wondering: longer term, do big oil companies have a future given the global drive to cut greenhouse gas emissions, leading to the increasing use of electric cars and a growing role for renewable energy?

The political risks of investing in Saudi Aramco were dramatically highlighted in September as well. That’s when Yemen’s Houthi group apparently used drones to attack two Saudi Aramco oil processing plants, cutting Saudi oil output by half and sending oil prices through the roof. By early October, though, oil production had returned to normal and global prices have fall, and stabilized.

The listing comes as many continue to monitor the country’s track human rights track record. Last year, Saudi agents allegedly killed journalist Jamal Khashoggi at the Saudi consulate in Istanbul, causing international outrage and jeopardizing the kingdom’s economic diversification plans.

Asked how safe an investment in Saudi Aramco would be, Aramco Chairman Yasser al-Rumayyan told Sunday’s news conference that Saudi Arabia protected shareholders’ rights and an investment would be very safe. “I think the whole wide world, not only Saudi Arabia, will be looking after the safety of this region and this company,” he said.

Analysts note that taking a bet on Saudi Aramco is equivalent to taking a bet on the entire kingdom.

Steffen Hertog, associate professor in comparative politics at the London School of Economics, said in June that the company had been taking on “increasing non-oil domestic development tasks, has acquired growing international investments, and is set to indirectly raise significant debt for the Saudi government.”

“Saudi Aramco’s prominent national role reflects its capabilities and gives it considerable political capital. It also comes with significant non-commercial obligations, however, which often are not of its own making,” Hertog wrote in the journal of the Oxford Institute for Energy Studies.

“When Aramco was tasked with the building of a stadium and sports city in Jeddah in 2009 … some observers already wondered whether it was being turned into a surrogate government,” he wrote.

In other words, prospective investor, this is no unicorn.