Is the Saudi economy about to collapse?

(also on as “Saudi Economy Collapsing? 5 Oil Deals Prove The Reverse“)

The media loves to report that Saudi Arabia is on the edge of a financial cliff. Last week, the Guardian reported on a “secret” memo in which King Salman ordered “unprecedented austerity” on government budgets, such as forbidding the purchase of new vehicles and furniture. This week, Bloomberg wrote that Saudi Arabia is renegotiating some contracts with companies working on infrastructure projects and has delayed some payments to contractors.

But are these really signs of an impending Saudi collapse? Consider the larger picture and how the Kingdom’s state-owned oil company, Saudi Aramco, is positioning itself to reap significant profits in the refining and petrochemicals sector.

  1. Saudi Arabia has one of the lowest public debt-to-GDP ratios in the world – less than 2% in 2014.
  2. Saudi Aramco and Total (N:TOT) are discussing serious plans to expand their 400,000-barrel a day refinery, Satorp, in Saudi Arabia.
  3. Saudi Aramco is deep into negotiations with the China National Petroleum Corporation (CNPC) to purchase a $1-1.5 billion stake in one of its refineries.
  4. Saudi Aramco just closed a $10 billion deal (which it financed with loans from major banks) to purchase a stake in the German synthetic rubber manufacturing company Laxness.
  5. Last year, Saudi Aramco increased its stake in South Korean oil refiner S-Oil (KS:010950) to 63%.

These deals should send a signal that Aramco is well positioned to take advantage of weaknesses in the energy sector to get good deals on refineries in places where it wants to increase its crude oil exports. This will prove lucrative for the company (and thus for the Kingdom) as it grows its footprint in a sector of the energy industry that traditionally does well when oil prices are low. Owning refineries also guarantees an outlet for Aramco’s crude oil, particularly as competition from other crude oil producers heats up.

The Kingdom is also putting billions of dollars into the infrastructure it needs to expand its domestic refining and petrochemical industry. In order to expand Satorp, Aramco and Total must have guaranteed access to natural gas to power their refineries. Saudi Arabia has long known that it possesses massive natural gas resources (5th largest in the world) but until now, has never committed to spending the resources needed to exploit them.

Meanwhile, King Salman is doing his part to help build his country’s long-term success in the energy industry by reigning in excessive spending in non-essential areas. Not only is this good business it also demonstrates to the banks, which Saudi Arabia hopes will continue to finance its purchases, that the Kingdom spends its money wisely. King Salman’s fist tightening also benefits his own power by driving home the message to Saudi bureaucrats that King Salman—whose reign is less than a year old—is in charge and watching them.

My prediction is that when the oil glut finally subsides (and with Iran inching towards increasing its own oil exports this will not happen anytime soon) we will find that Saudi Aramco will have increased its foreign holdings at least five-fold, and between its domestic refining industry and its foreign acquisitions, will control a significant portion of the global refining and petrochemicals market.

If that is the case, then where will Saudi Aramco look next? India is a serious contender.

India imports nearly 800,000 barrels of oil a day from Saudi Arabia and its consumption is continuing to grow. Two years ago, Aramco engaged in negotiations with India’s state owned Oil and Natural Gas Corporation for a 30% stake in its OPaL petrochemical plant, but the deal never materialized. Some officials said the deal fell through because Aramco really wanted to buy the entire company, not just invest in a single plant. More recently, after India’s Oil Minister recently complained about the so-called “Asian premium” on crude oil that India has had to pay, Aramco negotiated a price discount with India.

Ali al-Naimi, Saudi Arabia’s oil minister, indicated renewed interest in downstream investment in India when he recently remarked that Saudi Arabia is very interested in investing in India’s refining and petrochemicals industries and hopes that recent talks “will come to a good conclusion.” However, whether India’s Prime Minister Narendra Modi is able to relax regulations that currently prohibit foreign companies from owning over 50% of a business in India may play a role in future investment from Saudi Arabia.