BY GEORGE HAY
Saudi Aramco’s listing represents a tough task for its bankers. Their job is to sell a minority stake in a state-run entity with structural challenges to international investors who usually expect a proper say in the companies they own. Even so, the latest initial public offering documentation suggests buyers have two hedges.
On the face of it, foreign investors that take the plunge and invest in the 1% to 3% Aramco is selling – worth $15 billion to $45 billion assuming a $1.5 trillion valuation – are ordinary shareholders. That small say could make them vulnerable if oil prices collapse. The Saudi government, which will still own over 90% of the shares, could try to recoup lost revenue by taxing Aramco more. Yet international shareholders are subtly different from two other classes.
The first is the Saudi government itself, and its attitude to the $75 billion in minimum annual dividends Aramco is pledging though 2024. If a plunging oil price obliges it to pay out less, Riyadh will sacrifice its own share of the dividend to keep other shareholders whole. On the assumption it sells 3% of the company, Aramco’s free cash flow would have to fall below $2.3 billion for private investors’ dividend to be at risk. In 2018, free cash flow was $86 billion.
Subordinating the state and effectively turning other investors into preferred shareholders may help attract hedge funds, by making the stock easier to borrow against. Assume a fund used debt to fund half of its stake and borrowed at 3%. It could then make a juicy and predictable 7% annual return, according to Breakingviews calculations.
The other class is domestic Saudi investors. They are getting a sweeter deal in the IPO than international peers, with an extra share bonus for each 10 they hold for half a year. But that too may be good news: the bigger the presence of domestic retail investors, the stronger the incentive Riyadh will have to manage Aramco fairly. A nosediving share price might undermine the regime.
Neither of these two hedges are fail-safe. Riyadh could find ways to hurt Aramco, while helping domestic investors, say through lower taxes. And as recently as 2016, falling oil prices meant Aramco only generated $1.6 billion of free cash flow. Still, fund managers strapping themselves into the IPO roller coaster do at least have two credible airbags.
First published Nov. 4, 2019
(Image: REUTERS/Hamad I Mohammed)