The battle for market share

The battle for market share

Eric Watkins
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The main objective of the plan "Saudi Vision 2030" is not to make the Saudi economy independent from oil, but to protect the oil sector and to try to offset the loss of revenue for the state coffers resulting from the "price war"

Saudi Arabia’s former oil minister Sheikh Zaki Yamani thought he saw the handwriting on the wall years ago. In remarks that have now become almost legendary, Yamani said in the year 2000 that “Thirty years from now there will be a huge amount of oil—and no buyers. Oil will be left in the ground. The Stone Age came to an end, not because we had a lack of stones, and the oil age will come to an end not because we have a lack of oil." Yamani believed that advancing technology would eventually satisfy global demand for energy and would thereby render oil redundant, a reference to stranded assets long before the phrase became popular or even known.

Yamani's bête noir

#Saudi efforts on the market can slow the transition to #renewable energy by making it less affordable than #oil

There could be no greater bête noir than Yamani’s vision for anyone in the oil industry, but especially for Saudi Arabia, whose national income is 90 percent dependent on oil revenues. As hard to imagine as Yamani’s vision might be for many people in the oil industry, today’s government in Saudi Arabia seems to have taken it very seriously. Indeed, it can hardly be an accident that Saudi Arabia’s ambitious plan for the future coincides with the date seen by Yamani as marking the end of the oil era: Vision 2030. However, even as Saudi leaders may acknowledge the vision of Yamani, it does not follow that they share his vision. To the contrary, as will be argued here, Saudi leaders have developed their own vision of 2030 to prolong the oil era, not to mark its demise.

Saudi Arabia’s Vision 2030 was unveiled in April 2016 amid an economic downturn that had seen international oil prices drop by more than 50 percent since June 2014. Given that international collapse in oil prices and the attendant drawdown of Saudi financial reserves, many pundits saw Vision 2030 as a reactive effort by Saudi leaders to begin shoring up the country’s finances and diversify the economy away from its near dependence on oil. Bloomberg News provided a clear example of that attitude in a story carrying the headline “The $2 Trillion Project to Get Saudi Arabia’s Economy Off Oil.”

In the story, Bloomberg writers opined that there was “near-panic” among Saudi advisers as they discovered the country was “burning through” its foreign reserves at a faster pace than anyone knew, “with insolvency only two years away.” The story went on to intone that, “Plummeting oil revenue had resulted in an almost $200 billion budget shortfall—a preview of a future in which the Saudis’ only viable export can no longer pay the bills, whether because of shale oil flooding the market or climate change policies.” Published four or five days before the unveiling of Vision 2030, the Bloomberg story was almost sensational enough to short-circuit critical thinking into the belief that Saudi Arabia is looking to abandon oil altogether in its rush to an economic model based more on investment income than on its highly developed petroleum industry. A few days after the announcement of Vision 2030, The Economist magazine added its own sensationalism to the prevailing view, stating that Muhammad bin Salman, Saudi Arabia’s 30-year-old deputy crown prince, unveiled "a string of commitments to end the kingdom’s dependence on oil by 2030." It is hard to understand how the normally staid Economist could have missed a key point in Vision 2030, which clearly states that, “We will continue to manage effectively oil production to ensure a rewarding flow of oil revenue and reinvestment."

Saudi leaders may recognize that oil is a finite resource and that a new era of energy may eventually arrive, but they are staving off that era as long as possible

Oil essential to the Saudi vision

Oil is and will remain very much at the heart of the Saudi economy both now and in 2030. That point was made clear by Khalid Al-Falih, the country’s recently appointed minister of petroleum and mineral resources. According to Al-Falih, "nobody has the intention of turning off the oil economy in Saudi Arabia." To the contrary, Al-Falih said, Saudi officials believe global economic growth will support rising energy demand of about 1.5 million barrels a day (b/d) of oil for the foreseeable future. To help meet that demand, as well as disruptions of supplies if other producers falter, the Saudis are investing heavily in their spare production capacity.
Al-Falih was also sanguine about the place of oil in the face of competition from other sources such as renewable energy. “We’re not afraid of it, but we’re also realists and we know that oil will be a significant part of the energy mix for decades to come," Al-Falih said. “Even if the share of oil goes down from, say, 30 to 25 percent, 25 percent of a much bigger global demand means a much higher absolute number of barrels that will be in demand by 2030 or 2040."
Even as the Saudis are trying to build up the country’s oil sector, Al-Falih nonetheless hoped that, "the non-oil economy will grow even faster.” That fits with the thinking behind Vision 2030 where a partial sell-off of Saudi Aramco is destined to play a key role in helping the non-oil sector grow. With the Saudi firm valued at $2-$3 trillion, the proposed sale of five percent would generate income of $100-$150 billion and provide funding for investment abroad as well as in the Saudi private sector, both key aims of Vision 2030. From the standpoint of investors, optimistic observers say the sell-off could provide “access to one of the Kingdom’s prized industries" and pave the way for greater internationalization of the Saudi economy."

That appears to be wishful thinking as it is not yet clear what investors could expect from a stake in Saudi Aramco. But they are unlikely to have anything like control or even access to the company’s inner workings, much less the entire Saudi economy. According to Al-Falih, even after an initial public offering, the Saudi government will continue to make sovereign decisions on the firm’s oil production and spare capacity. Al-Falih said that is something that "investors are going to have to accept" as “part of the package of buying into the lowest-cost producer."
In fact, as suggested in Vision 2030, stakes purchased in Saudi Aramco might well have nothing to do with the oil industry at all. “We believe that Saudi Aramco has the ability to lead the world in other sectors besides oil, and it has worked on a sweeping transformative program that will position it as a leader in more than one sector," the document states. In a word, investors might find themselves holding shares in an Aramco subsidiary working on projects outside of the oil industry altogether.
Nor is there any timetable for an IPO. According to Al-Falih, an initial public offering of Saudi Aramco would require “extensive rewiring of our financials and the relationship with the government." And that, he said, “would require a significant amount of time."

To reduce that competition and maintain its own share of the energy and oil markets, Vision 2030 recognizes that Saudi Arabia may have to settle for lower prices for an indeterminate future

Oil: record numbers

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Vision 2030 aims to prolong the oil era

Instead of a document aimed at weaning the Saudi economy off oil anytime soon, Vision 2030 represents an effort to protect and prolong the country’s petroleum industry in the face of an extended and expensive battle for market share. While Vision 2030 clearly does not share Yamani’s apocalyptic vision of an oil industry in demise, the Saudi document must be understood in the context of the kinds of technological advances Yamani felt would make the industry redundant by 2030. Not least, Vision 2030 needs to be understood in the context of the current struggle over climate change and renewable energy. The most visible sign of that struggle came over a year ago in Paris at the UNESCO Business and Climate Summit. At the time, Saudi Arabia’s former oil minister, Ali I. Al-Naimi, made news by announcing his country’s seeming desire to switch production from its vast petroleum resources to solar power. "In Saudi Arabia, we recognize that eventually, one of these days, we’re not going to need fossil fuels," he said. "So we have embarked on a program to develop solar energy ... Hopefully, one of these days, instead of exporting fossil fuels, we will be exporting gigawatts of electric power."
As with Vision 2030, world reaction was immediate and sensationalistic. "Saudi oil minister: ‘Fossil fuels doomed, we’re switching to solar’," said one headline. "Saudi Arabia’s solar-for-oil plan is a ray of hope," said another. Similar headlines appeared a few weeks later, when Al-Naimi told reporters ahead of an OPEC meeting that solar energy represents an opportunity for everybody. "At OPEC the Saudi Oil Minister Mainly Wants to Discuss Solar Power,” read one headline, which also ran the subhead: “What does it say about oil when Saudi Arabia embraces solar?"

Postponement of the solar program

Pace headline writers, Saudi Arabia, which holds at least 260 billion barrels of conventional oil reserves, the earth’s largest, has no plans to drop petroleum for solar power or any other form of renewable energy. Saudi leaders may recognize that oil is a finite resource and that a new era of energy may eventually arrive, but they are staving off that era as long as possible. "I see renewable energy sources as supplementing existing sources, helping to prolong our continued export of crude oil. And this is why we are investing in solar energy," Al-Naimi once said. At the UNESCO meeting in Paris, Al-Naimi acknowledged Saudi plans for solar energy, but rejected the idea that solar energy could replace oil as an affordable fuel any time soon. He suggested that solar energy is a luxury that can be afforded by developed nations but not by developing ones. "We can afford to go after solar, but many people in Asia and many people in Africa cannot afford that. They’re still burning dung and wood and what have you for energy," he said. Then he summed up the Saudi position: "Let us focus our attention on how can we manage emissions so that we can continue using fossil fuels until we are able to develop the alternatives that we are working for: solar, wind, renewable - whatever."
Saudi Arabia has abundant supplies of the cheaper alternative in its 260 billion barrels of crude reserves - a point the minister underscored in Paris by asking fellow panelists if the world was ready for him to end his country’s oil production. “Can you afford that today? What will happen to the [oil] price, if today I remove 10 million barrels per day off the market?" It was a rhetorical question but one that made his point. For now, the widespread use of solar and other forms of renewable energy has been delayed while oil continues as the affordable choice.
Saudi Arabia has played a key role in creating that affordable choice. The UNESCO Summit came amid a global price war that saw oil prices dropping by 40-50% over the preceding year - a price regime that continues today. During all of this time, more than 2 years, Saudi Arabia has refused to cut production and has successfully urged OPEC to do likewise, preferring to see prices fall than to lose its market share. At the time, Al-Naimi put it in a very clear manner: “If I reduce, what happens to my market share? The price will go up and the Russians, the Brazilians, U.S. shale oil producers will take my share." He might have added that renewable energy producers also would like to take his share.

The Saudi's competitive advantage

Saudi Arabia’s influence on world energy markets rests on its ability to produce some 10 million barrels of oil a day at $4-$5 a barrel. That’s a competitive advantage that no other energy producer can match, especially since Saudi reserves enable it to sustain production of ten million barrels of oil a day for the next seventy years or more. That’s more efficient and long lasting than any other producer on earth, and it explains why Saudi Arabia can rock - or stabilize - world energy markets.

Saudi Arabia’s strategy for market share affects all higher-priced producers of energy, including solar. That was evident in January when plans to implement a $190 billion solar energy program in Saudi Arabia were delayed from 2032 to 2040 or later. The plan, which aimed at creating electricity from solar energy to offset domestic demand for oil, was delayed because of the low petroleum prices, which weakened near-term incentives to save oil for export. As shown by this delay in its own solar program, Saudi efforts on the market can slow the transition to renewable energy by making it less affordable than oil.
Saudi leaders may acknowledge that the world is in transition from the era of oil to another yet to come. They may even concede that the oil era will end because technological advances will introduce a new form of energy, not because oil will be depleted. New technological advances are at hand, and they may recognize that potential. But the Saudis are not prepared to cede their country’s predominant position on energy just yet. It comes down to the price war, and their policy on producing abundant low-cost supplies is currently winning the war for oil’s market share and for Saudi Arabia’s share of the oil market.

Vision 2030 offsets high costs of market share

Yet, this battle for market share comes at a high cost to the Saudi economy, and that is precisely where Vision 2030 comes in. As Saudi coffers deplete due to the prolonged battle over market share, a battle that could extend years into the future, there are potentially fewer funds available to cover the subsidies that Saudi citizens have long enjoyed. As a result, a new policy has to be developed that will make a virtue of that financial necessity. A new policy has to be developed that will enable the Saudi government to compensate for a potentially long-term period of reduced income that could create unrest among its populace. That policy is Vision 2030 - a policy that sees inflows of private foreign capital as a means of filling any shortfalls the country may experience due to the continuing struggle for its share of the energy market as a whole and the oil market in particular. Vision 2030 is not Yamani’s apocalyptic vision from 16 years ago. Unlike Yamani, Vision 2030 does not see the end of the oil era as inevitable. To the contrary, Vision 2030 sees the oil era as elastic, as a period of time that can be stretched into the future as long as Saudi Arabia has low-cost oil to be produced and sold. Vision 2030 implicitly recognizes that high oil prices actually work against Saudi market share by making high-priced producers of energy more competitive. To reduce that competition and maintain its own share of the energy and oil markets, Vision 2030 recognizes that Saudi Arabia may have to settle for lower prices for an indeterminate future. As that means potentially fewer funds for public subsidies, Vision 2030 extols the virtues of private foreign capital as closing the potential gaps between the country’s oil earnings and its social expenditures.