What a Saudi Aramco Flotation Could Mean for Governance

The global oil press was aflutter late last week with the announcement by Saudi Aramco that it is “studying various options to allow broad public participation in its equity through the listing in the capital markets of an appropriate percentage of the Company's shares and/or the listing of a bundle its downstream subsidiaries.” This followed an interview released Thursday in which deputy crown prince Muhammad bin Salman indicated that the kingdom was considering such an option in “the interest of more transparency, and to counter corruption, if any, that may be circling around Aramco.”

Much of the early speculation after this announcement has focused, understandably, on what impact such a move would have on global oil markets, or on the investors who would likely be interested in a piece of what could be the world's biggest listed company.

But looking at the news from the perspective of internal governance dynamics within a global oil giant points to two other interesting questions with implications for Saudi Arabia and beyond. First, why would Saudi Arabia do this now? And second, what impact might such a listing have on the governance and performance of Saudi Aramco?

I am no expert on Saudi Arabia, and have no particular insight on the internal dynamics that may have prompted these statements, or on how likely a flotation of shares actually is. But NRGI's research on the experience of national oil companies (NOCs) in other major producing countries suggests some hypotheses. Most of the world's most-successful NOCs—those that have delivered strong returns on public resources, limited corruption and responded to the needs of their citizens—have been subject to some kind of market pressures. In some cases—such as Norway's Statoil, Colombia's Ecopetrol, or Kazakhstan's KazMunaiGas—listing of some shares has been a component of a market-oriented commercial strategy. Other governments have not gone so far, but have required their NOCs to compete domestically with private companies for rights to oil and gas blocks, or have created public reporting regimes that mirror those employed by listed companies.

These market mechanisms create stronger incentives for the leadership of NOCs to perform well, because they impose real costs on the companies—economically and reputationally—if they don't.

Over the course of its history, Saudi Aramco has been able to buck this trend, seemingly performing at a very high level without the kinds of open-market mechanisms that have been critical to NOC success elsewhere. According to Saudi Arabia experts like Paul Stevens of Chatham House (specifically in his chapter in this book), the company has been able to thrive despite its opacity because:

1. There has been very strong strategic coordination between the company's leadership and the rulers of the kingdom.
2. The company has been able to attract and retain the best technical staff and leadership.
3. There is simply so much oil in the kingdom that the company has enjoyed a significant margin for error as its executives scaled the learning curve over many decades.

In the wake of the precipitous decline in global oil prices, and with the possibility that they could stay low for a while, everyone's margin for error is now smaller. In our series on the worldwide impacts of the commodity price decline on resource-producing countries, one recurrent theme has been that state-owned enterprises face increasing pressures that could prompt governance reforms designed to attract outside sources of revenue. Valérie Marcel, also of Chatham House, has found further evidence for this hypothesis in her recent work on the impact of the changing financial environment on government-owned oil companies.

Many people—especially those of us who don't follow Saudi Arabia closely—have assumed that because the kingdom has access to such massive oil reserves and plays such an important role in shaping the global oil market, it might be partially insulated from such pressures. We can only speculate on what is going on within the company or the government, so we should avoid reading too much into a couple of very general, non-binding statements. But last week's statements serve as a reminder—following on a series of budget cuts—that with low prices belts are tightening everywhere, especially in countries that are as oil-dependent as Saudi Arabia.

The government could be seeking an infusion of capital to leverage the company's risk in undertaking new projects in the low-price environment. Or the smaller margin for error could be making it more important that the company's commercial performance is absolutely at the pinnacle of global standards. The deputy crown prince's reference to a desire to fight corruption (“if any”) that may exist within the country is also intriguing. Many NOCs have been beset by massive corruption. Because of Saudi Aramco's closed approach, any such issues—if they exist—have not come to light. The statement could suggest that there are challenging internal dynamics at play.

So what would be the impact of floating some shares? It depends. There is a big difference in terms of corporate governance effects between, say, listing on the New York or London stock exchanges and listing on the Saudi exchange, and also between listing shares in the parent company or just of individual subsidiaries.

But under some scenarios, the impact could be significant. Saudi Aramco currently publishes very little verified information on its reserves, finances or activities. Listing on a major international exchange would require the company to open its books much more thoroughly, which would help investors, and Saudi citizens, to understand what the company is doing and how effectively it is delivering returns on the country's resources. Public listing would also require the company (or whatever subsidiary is listed) to abide by the corporate governance standards of the exchange, which can have powerful effects on how a company conducts its business.

Like many NOCs, Saudi Aramco has long been responsible for performing a range of “non-core” activities, including costly construction projects that have little to do with oil and gas. The listing of shares in the parent company would not require the company to halt these kinds of activities altogether. But such activities can be a concern to investors, so the preparation for a potential listing would require Saudi Aramco to disclose the costs of these “extra-curriculars” much more explicitly than it does today, and so could provide company leadership an opportunity to reduce the non-commercial role the company performs for the kingdom.

We should be careful not to overstate the impact that a listing would have on Saudi Aramco's corporate governance. One need look no further than Brazil's Petrobras, which has been at the center of a massive corruption scandal in spite of being traded in New York, for a cautionary tale showing that public listing alone is no guarantee of good governance. But the even a little openness would represent a big change from how Saudi Arabia has managed the oil sector to date, and would illustrate the huge impact that the commodity price decline is having on governance everywhere.

Patrick Heller is the director of legal and economic programs at the Natural Resource Governance Institute (NRGI).