Saudi Arabia investing in a range of upstream and downstream areas

When OPEC’s member states announced that their crude oil production target would remain at 30m barrels per day (bpd) at a meeting in Vienna on November 28, 2014, Saudi Arabia was accused of waging a price war to preserve market share. The implication was that the country wanted to see the price of Brent crude fall so low that drillers in the US shale boom would no longer be able to break even. The OPEC decision sent the price of US crude tumbling by 10% on that Friday’s trading, its steepest one-day fall in five years. Brent crude prices, which had hit $114 a barrel in mid-June, dipped below $70, the lowest since May 2010.

RIG COUNTS: As oil traders weighed the impact of these new prices, the regular Friday lunchtime update on the Baker Hughes rig count website became their weekly barometer. The Baker Hughes tally for February 2015 showed the US count at 1348, down by 335 on January and by 421 on February 2014 – a 24% drop year-on-year. That evening, Brent crude closed at $59.73.

However, if putting pressure on the US shale boom was the only driver for Saudi Arabia’s response to falling oil prices, it could easily have taken this a step further by boosting production. Figures from the Joint Organisations Data Initiative suggest average output remained steady, at 9.71m bpd in 2014 compared to 9.76m bpd in 2012. Although in 2015 production was indeed raised above the 10m bpd mark – reaching 10.3m bpd in March, according to the minister of petroleum and mineral resources, Ali Al Naimi – Saudi Arabia claims to have the spare capacity to boost that figure to 12m bpd. Should it wish to pursue an aggressive price war against other producing countries, it could afford to turn up the pressure much more than it has.

FINANCIAL CRISIS: The last time Saudi Arabia and OPEC slashed output to resuscitate the oil price was in January 2009, in the wake of the global financial crisis. In 2008, the barrel price of oil tumbled from $145 in July to $32 in December. As a result of the cuts it made, Saudi Arabia’s total oil production (including condensates and natural gas liquids) was 9.66m bpd in 2009, compared to 7.26m bpd for the US, according to BP figures. By 2013 Saudi Arabia had boosted production back up to 11.5m bpd, an increase of 19%, but it had meanwhile seen US output grow by 38% to 10m bpd.

Part of the reason for Saudi Arabia’s decision to maintain output levels in the face of the price fall lies in US production: one cause of the price drop is the added supply from US oilfields, and the inference is that this spare capacity should be cut before production slows in the Kingdom. “We are going to continue to produce what we are producing; we are going to continue to welcome additional production if customers come and ask for it,” Al Naimi told CNN in December 2014. “There is no effort against anyone in the international oil market; there are no conspiracies against other countries.”

INVESTING IN PRODUCTION: Historical data from Baker Hughes rig counts for the US show a dramatic shift from traditional vertical drilling to new horizontal rigs, which made up 6.9% of the total in February 1995, 11.3% a decade later and 75.5% in February 2015. The horizontal drilling technique used by frackers is relatively inexpensive for each rig, but the life of each well is also much shorter than in conventional oilfields.

The investment that has been taking place in Saudi Arabia in recent years is on a much grander scale. By the end of 2017 Saudi Aramco should be reaping a return with an additional 1.5m bpd of capacity in just three of its fields. The Khurais field, south-west of Dhahran, which was commissioned in 2009, currently produces 1.2m bpd of Arabian Light crude, but with improvements to the technology used on site, the company anticipates boosting this output to 1.5m bpd by 2017. In the Shaybah field, in south-eastern Saudi Arabia, output is set to increase to 1m bpd of Arabian Extra Light crude by the end of 2015, up from 750,000 bpd previously and twice the field’s original capacity.

MANIFA: Saudi Aramco’s most ambitious project in recent years has been the Manifa field, which is set to produce 900,000 bpd of Arabian Heavy crude in 2015. Consisting of 27 drilling islands, 13 offshore platforms, 15 onshore drill sites, 41 km of causeways and 3 km of bridges, Manifa is the world’s fifth-largest oilfield and the result of a $17bn total investment. In contrast to the horizontal rigs of North Dakota in the US, Manifa broke two new world records related to deep drilling: its 6.5-inch (16.5-cm) hole section goes down 37,000 feet (11,278 metres), and a seven-inch (17.8-cm) liner is deployed to a depth of 26,000 feet (7925 metres). Though production began in 2013, Saudi Aramco had known about the field’s potential since 1957.

REFINING: The crude oil produced by Manifa is fed into Saudi Arabia’s growing network of refineries as the Kingdom seeks to extract more value from its crude oil and so increase its energy productivity. Manifa’s Arabian Heavy will be turned into middle and light distillates at Yanbu and Jubail. Saudi Aramco has been operating refineries since 1967, but it is currently investing heavily in modern plants both at home and abroad. It owns four refineries outright at Jeddah, Yanbu, Riyadh and Ras Tanura, and has the following domestic joint ventures: Yanbu (Samref) with ExxonMobil; Jubail (Sasref) with Royal Dutch Shell; Rabigh with Sumitomo; Jubail (Satorp) with Total; and Yanbu (YASREF) with China’s Sinopec. Satorp and YASREF came on stream in 2014 and each has a refining capacity of 400,000 bpd. Saudi Aramco plans to open its own plant at Jazan in 2017.

According to a Jadwa Investment report on Saudi Arabia’s refining outlook, the Kingdom’s older refineries are generally limited to producing lower-value heavy distillates. This has led to a steady increase in imports of light and middle distillate products, including diesel and petrol. Jadwa predicts that new investment in refining will make Saudi Arabia a net exporter of distillates by 2020, with demand driven by non-OECD countries.

OVERSEAS REFINERIES: According to the US Energy Information Administration (EIA), Saudi Arabia has 2.4m bpd of refining capacity overseas, with joint equity ventures in China’s Fujian Province with ExxonMobil and Sinopec, in Japan with Showa Shell, and in South Korea with S-Oil. In the US, Saudi Aramco and its partner Royal Dutch Shell jointly own three Motiva refineries in Louisiana and Texas with a combined capacity of 1m bpd. Saudi Arabia shipped 1.3m bpd of petroleum products to the US in 2013, the EIA reports, and Saudi Aramco is expected to invest $100bn locally and overseas to raise its refining capacity to 8m-10m bpd.

DOMESTIC DEMAND: Saudi Arabia also faces growing demand from its own downstream industries. To meet this, Saudi Aramco has pursued a policy of building refineries on sites shared with petrochemical plants. Satorp, its joint venture with Total, is producing benzene and propylene at a plant employing 1200 people. When Sadara, its joint venture with Dow Chemicals, is up and running in 2016, the site at Jubail Industrial City II will be able to put out 3.2m tonnes per annum (tpa) of chemicals and plastics. A third joint venture with Sinopec, YASREF, is producing 263,000 bpd of diesel, 90,000 bpd of petrol, 6200 tpa of petroleum coke, 1200 tpa pelletised sulphur and 140,000 tpa benzene at a plant in Yanbu, employing 1300 people directly and 6000 indirectly. Another Saudi Aramco joint venture called Luberef, this time with Jadwa Investment, produces virgin base oils using two solvent extraction base refineries at Jeddah and Yanbu with a capacity of 4m barrels a year. Owing to strong growth in the segment, Luberef is currently undertaking a $1.45bn expansion to increase its operations at Yanbu. “Mainly driven by the industry and government sectors, the lubricant segment has been experiencing sustainable growth for the past five years,” Mezahem Basrawi, CEO of Alhamrani-Fuchs Petroleum Saudi Arabia, told OBG.

These industries are examples of vertical diversification in the Saudi economy as the Kingdom looks to move away from an over-reliance on crude oil while also making the most of the opportunities the hydrocarbons sector can create further downstream. All of these industries rely on a steady flow of feedstock for their plants, be it crude oil or gas. In the face of these demands, any supply disruption made to satisfy Saudi Arabia’s traditional swing producer role could therefore threaten the profitability and commercial success of an ever-broader segment of the Kingdom’s economy.