Saudi Arabian Oil Company (2222) Earnings Call Transcript & Summary

Welcome to Saudi Aramco's Half Year 2022 Results Call. [Operator Instructions] I shall now hand over to Mr. Fergus MacLeod to begin.

Hello, and welcome to this audio webcast discussing Saudi Aramco's half year 2022 results. I'm Fergus MacLeod, Saudi Aramco's Vice President of Investor Relations. And it gives me great pleasure to be joined today by Amin Nasser, our Chief Executive Officer; and Ziad al-Murshed, our Chief Financial Officer and Senior Vice President of Strategy and Development. Our webcast today will comprise a presentation followed by a question-and-answer session, and we anticipate the entire call lasting around an hour. I'd just like to remind you that this webcast and conference call are being recorded. Before we start, I'd like to draw your attention to this cautionary statement. During today's presentation, we may make forward-looking statements that refer to estimates, plans and expectations. Actual results and outcomes could differ materially due to factors we note on this slide. And please also refer to our regulatory filings and website for more details. With that, I'll now hand over the call to Amin.

Thank you, Fergus. Welcome, everyone, and thank you for joining us today. We have delivered a record performance in the first half of 2022, despite unprecedented volatility in the global economy and energy markets, thanks to the dedication and hard work of our employees and support from all of our stakeholders. Let me begin by looking at the business environment. As the world began recovering from the pandemic, it encountered new geopolitical and economic challenges. Rapidly rising inflation has caused central banks around the world to tighten monetary policy, impacting prospect for economic growth, and there is a growing consensus about a potential downturn. Oil demand had been expected to return to pre-pandemic levels by the end of 2022. But now, most forecasters expect this to happen in 2023. Further downgrades to this view are possible if the outlook continues to deteriorate. Looking beyond the short term, it is important to remain focused on the longer-term trends in the oil market. Oil demand is likely to grow for the rest of the decade. We believe that the world will continue to need oil and gas for the foreseeable future to support a sustainable and affordable energy transition. Our concern remains that the industry is not investing enough to meet even the most conservative estimate of future demand. We strongly believe that all stakeholders need to recognize this problem and support higher investment to ensure the market remains adequately supplied. In Aramco, we have been clear and consistent in our view that we are part of the solution to supply low-cost, low upstream carbon intensity barrel. We will increase our maximum sustainable capacity to 13 million barrels per day by 2027 from the 12 million barrels we currently have available. We are confident that we can help manage the dual challenge of meeting the world's pricing energy requirements, at the same time, reduce emissions. Our strategy is resilient to market uncertainty and aims to maximize long-term value to our shareholders through oil price cycles. We have outlined our plan to execute the largest capital investment program in our history. Our opportunities are unique, and we will capture them with capital discipline and financial prudence. As I mentioned earlier, we are increasing our maximum sustainable oil production capacity. Our production is amongst the world's lowest cost and least carbon intensive, and we aim to preserve that competitive advantage. We also aim to increase our gas production by more than 50% by 2030. The growth in gas supply comes with significant quantities of additional high-value liquids and displaces liquid burning. This will not only help the Kingdom achieve a lower carbon energy mix, but also make more liquids available for export. In Downstream, our focus is on derisking our leading Upstream position and capturing integration value through our liquids to chemical program. We are making good progress with developing prospects to reach our long-term goal of up to 4 million barrels per day. Our investment in low carbon fuels and solutions will reinforce our ability to achieve our net zero ambition. We are supporting our partners to increase localization through our flagship programs, IKTVA and Namaat to further improve cost competitiveness and supply chain resilience. All of this is enabled by maintaining financial flexibility and strength. Our strategy and plans integrate sustainability across all levels. Sustainability has been at the heart of what we do for many decades and has always been core to our value proposition. Our approach to sustainability reflects our view on the need for an orderly and sustainable energy transition. We believe oil and gas will continue to play an important role, and our leadership position amongst the lowest cost and lowest emission producers will be critical to ensure the supply of reliable and affordable energy to our customers. Our 2050 Net Zero emissions -- ambition is central to this. And we have now laid out our initial pathway and interim emission reduction targets for the year 2035. Our 2035 targets built on our leading upstream carbon intensity position with a minimum of 15% reduction from 2018 baseline. We are coming from a very competitive starting position and can bid to other major producers. By 2035, we plan to achieve a reduction of 52 million tonnes per annum in Scope 1 and Scope 2 greenhouse gas emissions. Our first sustainability report published in June provides detail of our performance and ambition. I will now turn it over to Ziad to go through our first half performance.

Thank you, Amin, and welcome, everyone. It's nice to engage with you again. I'll take you through our performance for the first half of this year, leaving sufficient time to answer your questions at the end. Before we get into the financial results, let me highlight some of our key achievements in progressing our growth strategy so far in 2022. As Amin highlighted earlier, we are focused on executing the largest capital program in our history to help meet the world's needs for reliable, affordable and sustainable energy and to maximize long-term value for our shareholders. In crude oil, we are making good progress to increase our maximum sustainable capacity with the first increments coming on stream in 2025, followed by additional capacity coming in 2026 and reaching our target of 13 million barrels per day by 2027. We continue to deploy leading technologies to maximize extraction at the lowest possible long-term costs. We deployed a new supercomputer for reservoir simulation, second only in the region to our own Dammam-7 supercomputer. In gas, we are achieving key milestones towards increasing our production by more than 50% by 2030. Specifically, for conventional gas, compression projects at Haradh and Hawiyah fields are progressing well. For unconventional gas, initial construction is underway for Jafurah gas plant. For gas storage, construction is near completion at Hawiyah Unayzah gas reservoir storage, which is the first underground gas storage project in the Kingdom. This will help us manage seasonal changes in demand and improve asset utilization and cost efficiency. In Downstream, we continued to grow our presence in key markets and to develop prospects for our liquids to chemicals program to reach up to 4 million barrels per day. We made a final investment decision to participate in the development of a major integrated refining and petrochemical complex in China. We're also making strong progress and are well ahead of schedule in capturing integration synergies between SABIC and the rest of the group. In Europe, we are expanding our downstream presence with the acquisition of an interest in Poland's refining, wholesale and jet fuel marketing segments, along with PKN Orlen. Most recently, we agreed to purchase Valvoline's global products business, expanding our presence in the finished lubricants market and leveraging our global base oil production. Turning to low carbon fuels and solutions. We set out interim targets to achieve our net 0 ambition and to produce 11 million tonnes per annum of blue ammonia. Finally, we are further strengthening our localization of our supply chain through IKTVA and Namaat programs. We reached almost 60% local content in 2021 and still targeting 70%. It is worth noting that this accelerated localization has helped dampen the impact of global supply chain bottlenecks. On the financial side, we remain focused on maintaining a high investment-grade credit rating. During the first half, we prepaid about $20 billion worth of promissory notes related to the SABIC acquisition, which resulted in financing cost savings of around $2.2 billion and is gradually flattening our debt maturity schedule. Overall, we're making good progress in the delivery of our strategy. Let me now turn to our key operational and financial highlights for the first half of this year. We generated $87.9 billion in net income, nearly double that of the same period of last year. We also generated $65.2 billion in free cash flow, almost 60% higher than last year. Our strong profitability and cash generation supported our dividend distribution of $37.5 billion for the first half of the year. We reduced our balance sheet gearing to 7.9% at the end of the second quarter, down considerably from 14.2% at the beginning of the year. Having said that, our focus is increasingly on maintaining a high investment-grade credit rating across oil price cycles. In doing so, we look at balance sheet gearing across the cycle, and we also look at the ascribed gearing, which is a more stringent metric that is widely used by credit rating agencies to assess financial strength. Our capital spending was $16.9 billion in the first half, growing by around 8% relative to the same period of last year. We expect spending to continue to increase in the second half of this year. So our full year 2022 capital investment guidance of $40 billion to $50 billion remain unchanged, but we expect spending to be towards the lower end of this range, depending partly on whether external investments materialize before year-end or are pushed to next year. Looking at the details, you can see improvements in the profitability of both upstream and downstream as a direct result of higher volumes, higher crude oil prices and stronger Downstream margins. Upstream delivered EBIT of nearly $149 billion in the first half, which is about 75% higher than the same period of last year. This was mainly driven by higher production and an increase of $42 per barrel in realized oil prices. Downstream EBIT more than doubled from the same period of last year, reaching nearly $23 billion in the first half of this year. This strong performance was driven by a combination of stronger margins, Sabic synergies, inventory revaluation gains and benefits from our portfolio-wide transformation program. We also see all financial metrics continue to improve quarter-on-quarter. Now before we take your questions, let me recap on how we are delivering shareholder value. We've had a record first half of 2022 under challenging circumstances. Our plans are on track to deliver long-term value to our shareholders, and we continue to further strengthen our balance sheet with an increasing focus on maintaining a high investment-grade credit rating through cycles. One of our enduring strengths is our long-term approach. For us, it is about decades, not quarters nor years. Let's now go to Q&A.

[Operator Instructions] I shall now hand back to Mr. MacLeod.

Thank you, operator. Thank you, Jordan. And I'd like to take our first question, which comes from Mazen Al-Sudairi at Al Rajhi Capital in Riyadh.

Congratulations for the good results. I have just only 2 questions, please. Regarding -- the cash flow has improved, can we see any upgrade regarding the CapEx budget? And if it is yes, can you please break down by segment? This is the first question. The second question as the key Asian consumers like India are buying cheap Russian oil, what is the impact in Aramco market?

So 2 very interesting questions, Mazen. I think the first one is there any update on our capital spending guidance. You remember back in the March earnings call, we gave guidance of $40 billion to $50 billion for 2022. And we said it would be significantly higher in 2023 and then rising potentially through the middle of the decade. So is there any update on that? And then the second question, I think, is, is there any impact on our sales into our key Asian markets as a result of the reallocation of flows in the global crude oil market since the conflict began a few months back?

Thank you, Mazen. I think our intention is to significantly increase spending to capture unique growth opportunities that create shareholder value. Our guidance is still the same, $40 billion to $50 billion for 2022. I think the increased capital spending is going to be difficult because that don't require pre-engineering and engineering to reach a final investment decisions before we start spending on this capital program. You asked about the breakdown, I would say 50% is for upstream and 50% is for downstream and low-carbon projects. That is the distribution of our capital program. With regard to the Indian market and the import of Russian crude, we have enjoyed good relation, and we are a base supplier because of our reliability to our great customers in Asia and the rest of the world, we did not see any impact by the Indian importing more Russian crudes on the supply that is coming from Saudi Aramco. We continue to maintain our market share in terms of supply to the Asian market and India. And I say, look at it as a base supplier because of our high reliability, and we enjoy a good customer base that allow us to continue to supply even under these conditions. Thank you.

Thank you for the question, Mazen. Next question comes from Jason Kenney at Santander in Edinburgh.

Fergus, can you hear me?

We can hear you fine, Jason. Please go ahead.

Yes I was just wondering on the capital frame and the potential net cash position, certainly, I think is possible by year-end. I mean is this an opportunity for accelerating investments or do you think there's going to be a focus on cash returns just to absorb some of that surplus cash? I know you think in decades rather than quarters, but you're going to have surplus cash for a few quarters yet, I think. So if you could just talk to me about the priorities for cash, net cash, in particular, in the next few quarters, that would be great. And then secondly, on the working capital, quite a significant build $15 billion at the minute. How quickly do you think the bulk of that could unwind in the next 3, 6, 9 months?

Okay, Jason, there are 2 questions there. I think the first one is in terms of the balance sheet, clearly, we're not at a net cap position at the moment. Gearing at the end of the second quarter was just less than 8%. And if the happy situation of very strong free cash flow continues, what would be the outcome? That's not a problem we have at the moment, Jason, that it's a problem that you're projecting, I think, based on your own assumptions at oil prices and production into the future. But if we were to have that, where would we -- what would we do? That's the first question. And then the second question, as you correctly point out, quite a significant build in working capital in the first half of 2022, $14.2 billion in the first quarter, $15 billion in the second quarter. Do we see that unwinding, I guess, that also depends a bit on oil prices, but I think those were your 2 questions.

Yes. Thank you, Jason. I'll answer part the questions and leave the rest to Ziad to elaborate on. With regard to accelerating our investment, I think that is the only venue provided that we land and finalize our negotiation. There is a good number of investments that we are looking at right now. However, as you appreciate, these require a lot of discussion and negotiation with the partners in different parts of the world. If we are able to accelerate any of these investments bring it forward, that would be fine, and we are looking forward to that. However, realizing from our discussion and various investments that we have outside the Kingdom, it takes time to execute these mega projects that we are intending to partner with different parts of the world. Now I will leave the rest of the questions to Ziad to answer. Ziad?

Thank you. I mean, Jason, on the cash priorities, those remain unchanged. We are still, first and foremost, sustaining CapEx and then the sustainable dividend then investment in growth. And then finally, additional deleveraging and/or additional distributions. Now just a reminder, we've been -- we always talk about the fiscal discipline. So we want to be able to push projects that create significant shareholder value despite ups and downs in oil prices. So we want to be able to cross-cycle fund our current capital program, which we believe has unique opportunities to create the shareholder value. As to your question on working capital build, that is mostly oil price dependent. So it's building up and winding down is very closely correlated to oil prices.

Thank you, Jason. Thank you for the question. Next one comes from Mohammed Al-Thunayan of Jadwa Investment.

Congratulations for the great set of results. So I would like to bring your attention back to the Slide #19 from the full year 2021 presentation, which had the cash flow allocation priorities since I would like to build on that. So during the first half, the company is aiming to achieve its target of $40 billion. And I believe the gross cash balance on hand will be able to cover 2 years of the company's CapEx requirements. Also, the company was able to reduce leverage significantly, which is evident by the decline and the gearing ratio towards the low end of the guidance range, which was mainly attributable to the early deferred consideration payment to [indiscernible], which amounted to $17.7 billion during the first half alone, which represent 23.6% of the $75 billion annual dividend payments. Moreover, at a production of around 10.8 million barrels and even if you assume crude averaging $70-$65 per barrel and assuming a CapEx of $40 billion, Aramco free cash flow will still come for the current dividend payment of $75 billion for all shareholders. And during the last year, also, the Board has recommended a 10% bonus share, which is not equivalent to a dividend increase nor a share buyback. And I think we are all in agreement when it comes to that point. And given the robust kind of oil environment, led by the growth of oil demand limited spare capacity, it seems that there is one element that's missing in the previous year loss, which is additional dividends on the so-called sustainable and progressive dividend policy, which is something that we have seen other major IOCs have done, with Aramco being the only exception. So the question is, with the state having almost a full participation in the upside of oil prices through higher royalty and income tax and the PIF is capturing the upsides for early deferred consideration payments. How should we think about the benefit to minority shareholders and their participation in the upside of higher oil prices given no increase in dividends so far? More clarity and specifics on the policy would be highly appreciated.

So Mohammed, thank you, that's a very specific and detailed question. We'd be delighted to talk to you about your modeling because you went through some quite specific assumptions that you've made about the future, but that's great, and we'll be delighted to talk to you offline about those. But I think your basic question does boil back down back to the same issue about the balance of incremental investment versus incremental distributions going forward. In the happy situation that the strength of the financial performance we've seen in the first half of '22 is continuing into the future. I believe that's your question, Mohammed.

Yes. Thank you, Mohammed. We have definitely a unique opportunity to create shareholder value. With regard to our investment plan and our long-term plan, we are looking by 2030 to increase gas by almost more than 50%, I would say, 50% to 70%. That's in 8 years. That will eliminate almost 1 million barrels of liquid pending generate a lot of value and also reduce our emission significantly. We are also looking over the next 8 years of up to 4 million barrels of liquid to chemical, and that will give us a lot of diversification -- important diversification that we need and ensure our long-term sustainability. Not to mention our big investment in renewable, in blue hydrogen, all of these are important projects. We need to capitalize on the opportunity and our strong cash position to ensure that these programs, our cost cycle to withstand any major market downturn. We always risk case our scenarios. We need to continue with our plan and when I mentioned by 2030 regardless of what happened in the market. So when you put a very high distress case, not the one you mentioned, we even stress at a much higher prices -- lower prices to ensure that we can continue to carry on our capital program. And to ensure funding flexibility while maintaining high investment credit rating for the company. We don't compromise long-term value for short-term gains, and we aim to deliver a sustainable and progressive dividend policy, no change on that plan. And the company will review the dividend with full year results in March 2023. And based on the results of 2022, the management and the Board will consider the dividend requirement for the full year of 2020.

Yes. Again, thanks for the question, Mohammed. We -- investor relations to follow up with you in detail on the very specific numeric numbers that you brought up. Next question comes from Alastair Syme at Citigroup. Alastair in London, are you ready to go ahead?

Yes, thanks Fergus. Could you just talk a bit little bit about MSC-13, how much of the CapEx this year has been sort of directed towards that? And really where we are on the plan, are we right on track, but is all the contracted capacity being secured and what sort of roadmap signs are we going to see as a market? And then the second question, you made a couple of acquisitions in downstream this year. You mentioned Poland and Valvoline and international downstream. So what ties those together? I mean, you've clearly got a lot of capital to do anything, so why those 2 acquisitions in particular?

Okay. Very clear answer. So first question, MSC-13 update, where are we on the plans there? And secondly, an update on downstream strategy, I think particularly, the inorganic component of downstream strategy.

Thank you, Alastair. We are progressing very well in our expansion of our maximum sustained capacity from 12 million to 13 million. As you know, that will come in phases. Very significant phase will come in 2025, where we will go to 12.3 million with Marjan increments and Berri increments coming on stream. And then in 2027, we have Zuluf heavy, which is about 600,000 also coming on stream. That will -- 2026 actually will come on stream, that will take it from 12.3 million to 12.7 million. And we will be at 13 million in 2027. There are other increments planned in '27 and beyond, like in Safaniyah and other places. But we are progressing very well with our contractors. We are on track to deliver the phases I mentioned and no issue whatsoever in terms of the execution, which is already being progressing very well. With regard to our capital investment, yes, these are some of the PKN Orlen is an important market in Europe. We are looking at a JV and placement of crude of about $400,000 in that market. That's an important market for us. This is the first time we have placement through a JV in Europe and it will further strengthen the position of Saudi Aramco and Europe. Valvoline, as you know, we are very strong and big when you look at base oil, and we want to be in lubes, big time and Valvoline is strong. It has 1.9% global share of lubricants and in different markets and represent a great opportunity considering our position in base oil, not only in the Kingdom, but also globally from our affiliates. So it will really strengthen the company position when it comes to the lubricant markets over the long term. We do have other investments as they say they cannot refill them all. But as you appreciate, it takes time, even closing these investments that we are looking at because like if you look at even Valvoline, because of the anti-regulatory requirement, it takes time to close this investment and make the payment for this transaction. So we do have good number of transaction currently going on, especially in Asia. And more particularly in China, but it will take time for us to close all the discussion that is ongoing and agree on all the elements for these joint ventures. But as part of our 4 million barrels of liquid to chemical, a lot of it will happen out of Kingdom with our partners, and this is where the investment will be carried through, hopefully, over the next couple of years.

Next question comes from Biraj Borkhataria at RBC, I think also in London.

The first one is on CapEx again. So this morning, I was a little bit surprised to see you guide to the low end of the CapEx budget. I would have thought you've been, if anything, at the high end this year. Firstly, given inflation is sort of driving up cost anyway. And secondly, you might want to accelerate some of the spend given the current environment. Could you just outline what I'm missing there and how we should think about 2023 also? And then the second question, specifically for Mr. Nasser so, at the end of last year, you did a speech in your kind of one of the first to come out and talk about explicitly a disorderly energy transition and some of the differences between hopes and reality. And that view, I think, is more widely accepted now, but we haven't really seen a big increase in investments in oil and gas across the industry outside some of the NOCs. Could you just talk about your views as it stands today relative to what you saw at the start of the year? Do you think your message has hit home or what more needs to be done?

Thanks, Biraj. So I think 2 things. The first one was update on capital spending guidance '22 and anything we might be able to say about 2023, including the impact of inflation and level of activity and whether it could be accelerated. And then, secondly, as you said about the disorderly transition that our executive talked about a few months back, whether we see any mitigation to the problem of underinvestment in the upstream that indeed, I think the company has been talking about for several years now.