The Emperor’s new IPO

Four years ago, in mid-May 2012, Mark Zuckerberg and colleagues IPO’d Facebook.   Rather unusually the IPO didn’t have a clear use of proceeds:

The company says it plans to use the proceeds for working capital and general corporate purposes, but adds: “We do not have any specific uses of the net proceeds planned.”  WSJ

Imagine my version, he instead says that  “we will be using the proceeds to create a fund so that we and our current stakeholders can build a future for ourselves that does not rely on social media or advertising…”   

His advisors and bankers would have gone into meltdown…  Predicting the demise of your core industry and planning for an alternative future doesn’t sound like the stuff that pre-IPO prospectuses are made of.

But from a certain distance this looks rather like what Saudi Aramco is doing.  Bankers are, of course, killing each other to get a piece of the action – it will undoubtedly generate massive fees (for the bankers).  But what of the use of proceeds?

“What is left now is to diversify investments. So within 20 years, we will be an economy or state that doesn’t depend mainly on oil.”

As long  ago as 2000 Sheik Yamani famously said:

The Stone Age came to an end not for a lack of stones and the oil age will end, but not for a lack of oil. –  Ahmed Zaki Yamani

My personal view (in this blog) is that the Saudis have realised that the world will have a lot less demand for oil in the not to distant future.  In view of this, their drive for market share since late 2014 has had the clearly stated goal of not subsidising high-cost producers.  The subtext I see in this is that it would be foolish to not produce any and all oil they can now, if they believe that some of that oil may well remain in the ground as the world weans itself off oil.   It would be doubly bad if their oil was in the ground because they had allowed others to produce in their place.

So if you can see the end of oil (and yes, that is a bit too melodramatic, but at least a global effort to reduce fossil fuel consumption) the next logical step is to see how you could bring forward the revenues of that future production.  How about an IPO?

A different argument is that historically Saudi oil is the lowest cost production – so will be the ‘last man standing’ in a price war.  Whilst this has been true when the bulk of the production comes from one super-giant field (Ghawar) with relatively simple production dynamics.  As the assets age so the cost of recovery will increase as EOR is implemented to extract the late life oil.  Secondary recovery started as long ago as 1958.  Tertiary Recovery or “EOR” has already started using CO2 injection.  But with EOR on top of over 3000 water injection wells, costs will inevitably be creeping up.  When significant water break-through happens, then the unit costs will make it far less competitive than in the past.  Ghawar is clearly not the only asset in Saudi Aramco, but it is a major part of the company’s and indeed country’s value.

If you can see that your competitive advantage is going to decline and you can maximises value now whilst everyone is focused on the past and present… well, IPO now.

In this case, it is not the Emperor who cannot see the reality of his new clothes.  In fact far from it: he seems to be telling anyone who will listen.  But it appears that it is the crowd who may be not seeing the naked truth…

On a brighter note, if the IPO goes ahead, one would expect SA to do what ever they can to have a stable and/or rising oil price leading up to the IPO to extract maximum value from the punters investors.

Use the comments section to say whether you are a buyer or a cynic !

For full disclosure I thought the Facebook IPO was massively over-valued, and I got that one royally wrong 🙂