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August 14, 2018
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"Saudi, Inc." is now available! Order your copy from Amazon or Barnes & Noble. Signed copies are also available from the San Marco BookstoreAudio book and Kindle editions are available as well.
 
In This Newsletter
1) Interview on NPR's Marketplace about Iran sanctions (Marketplace)
2) Quoted in The National about Saudi Arabia's potential investment in Tesla (The National)
3)
Why we should cheer Trump's energy policy gambit (Washington Post)
4) 4 Comparisons Between Aramco And Apple, Two Trillion-Dollar Companies (Forbes)
5) 4 Key Oil-Related Events That Investors Need To Know (Investing.com
6) Pipeline Crunch Impact On Shale Oil Companies May Be Overblown (
Investing.com)
7) If Tesla Falls Other Electric Vehicles Could Thrive (Forbes)

 




The Trump administration recently announced a proposal to freeze planned increases to fuel economy and fuel emissions standards in new vehicles. Under the current regulations, issued by the Obama administration, car and truck makers are expected to produce vehicles with an average fuel economy of 51.4 mpg by 2025. The Trump administration wants to keep the 2020 standard of 36.9 mpg in effect until at least 2025.

It would be simple to see this move as a blow to Democrats’ environmental agenda or as part of a pro-big-business Republican agenda. But it is actually a response to a new energy situation in the United States in which oil and gas are abundant and cheap once again.

The regulations were conceived when oil and gasoline prices were significantly higher, with the assumption that, in the future, consumers would desire significantly more fuel-efficient and even electric vehicles. Since then, however, new technologies and more investment in oil exploration and production unlocked billions of barrels of oil and equally impressive amounts of natural gas beneath the United States’ own soil. By 2014, oil prices were trending downward, and by 2016, the price of oil bottomed out at $27 per barrel. Now, with gasoline prices steadily remaining less than $3 per gallon across most of the United States, consumers are just not as willing to pay extra for cars that get outstanding gas mileage.

Although not unprecedented, adjusting policy to reflect the new energy reality is actually rare. Policymakers have historically been bad at forecasting the future when it comes to oil prices and energy technology. Repeatedly, even as the energy situation inevitably changed, energy policy remained static. Political interests, ideological beliefs and a lack of will to undo policies that were no longer effective all explained why certain energy policies remained in place long after they made sense.

Clinging to these policies exacerbated certain economic trends and created political situations that could have been avoided had the government adjusted policies and regulations to fit new developments in energy. By doing so now, the Trump administration is avoiding a repeat of this persistent mistake.

In the early 1970s, inflation was a pressing policy issue. The Nixon administration decided to implement price controls on oil, among other things, to keep prices low for consumers.

Policymakers were reacting to the immediate economic situation without considering how this might affect energy use and availability. Just a year later, however, domestic oil production hit a wall while demand continued to grow. As a result, the United States became a net importer of oil for the first time in 1972.

That became an even bigger problem in 1973, when the Organization of Petroleum Exporting Countries (OPEC) unilaterally increased oil prices and the Arab members of OPEC initiated an oil embargoagainst the United States. Americans were suddenly hit with soaring energy prices and gasoline shortages that they were completely unprepared for. The fact that prices had been kept artificially low because of the 1971 decision exacerbated the economic shock in 1973 and 1974.

Low oil prices also stifled the development of new oil resources in the United States. Oil companies would not commit financial resources toward developing oil reserves, such as those in Alaska, because the return on investment for these projects was considered too low. Oil companies were interested in investing only in cheap resources, which were mostly found in the Middle East. The Nixon-era price controls, therefore, actually exacerbated the United States’ dependency on foreign oil.

Oil prices fluctuated over the next 30 years, but at the turn of the millennium, they again reached extreme heights.

Many analysts and industry experts came to believe that the world might soon run out of oil. These fears prompted a comprehensive energy policy overhaul by the George W. Bush administration designed to cut the use of oil and prepare to shift the U.S. economy away from oil entirely. New policies included, among another things, a mandate to mix ever-increasing amounts of ethanol, a substance made from corn or sugar, into U.S. gasoline — producing a boon for corn farmers.

But this policy was based on the flawed assumption that the total amount of gasoline used in the United States would continue to increase at essentially constant rates and that petroleum would become increasingly scarce and expensive in the future. This turned out to be false.

Gasoline use fell during the recession, and gasoline producers could not use all of the ethanol mandated by regulation. There simply was not enough gasoline being sold to mix in all of the ethanol the government was demanding the industry use. To comply with the law, refineries were forced to purchase “credits” for the ethanol they could not use.

In short, the Bush administration policies quickly stopped matching the reality of gas consumption. And so, such regulations became inefficient and ineffective. Compounding the problem, the ethanol mandate created a powerful ethanol lobby funded by farming interests that has successfully blocked legislation that would modify the standards to reflect the ever-changing gasoline market.

Most vehicles on the road today cannot run efficiently on gasoline that is more than 10 percent ethanol. But the ethanol lobby continues to agitate for the current ethanol mandate and support politicians who resist changes, even though this policy poses economic challenges for refineries and environmental threats as well.

Although historically U.S. energy policy has proven difficult to adjust, we do sometimes get it right — illuminating the advantages of a deft, flexible energy policy. During the Carter administration, the United States banned the export of almost all domestically produced oil. In the wake of the oil shocks and the 1973 oil embargo, policymakers wanted to keep American oil in the United States and prevent future gasoline shortages.

At the time, it seemed that the United States would never again become a major oil producer. Forty years later, however, the fracking revolution brought American oil production up to almost 9.5 million barrels per day. U.S. oil storage facilities were overflowing with crude oil that U.S. refineries could not process.

President Barack Obama and Congress wisely adjusted course, ending the crude oil export ban in 2015. In 2016, the United States started exporting its crude oil around the world. Last month, the United States exported an average of 1.87 million barrels per day of oil — more than double what U.S. producers exported in 2016. U.S. crude oil exports are a growth industry and are already helping to reduceAmerica’s trade imbalance, create jobs and generate investment in new ports and shipping facilities.

Policies, especially with regards to energy, need to be adjusted to fit changing circumstances. It turns out that no one, especially not the government, can predict the future of the energy industry.

The real problem lies with government’s proclivity toward crafting comprehensive schemes that set policy for the future based on the economic conditions of today. As interest groups that benefit from such policies mobilize, change becomes difficult. Even without legislation, adjusting rules and regulations requires a time-consuming process of public comment that can drag on for many months or even years. Most politicians lack the will or the desire to go through the process of adjusting rules and regulations, preferring comprehensive legislation or ignoring what appear to be minor issues.

When it comes to fuel economy standards, the Trump administration isn’t even trying to reverse or undo the current policy but is simply seeking to delay the implementation of higher standards for several years. This flexibility can better serve consumers and the broader economy and shows the dexterity that all administrations need to have in this policy realm.

4 Comparisons Between Aramco And Apple, Two Trillion-Dollar Companies
(also on Forbes.com)

Apple AAPL -0.67%’s market cap recently breached the $1 trillion mark today, making it the first company to do so. What does that mean for Saudi Aramco, the oil giant that many consider the world’s, “most profitable company?” Saudi leadership continues to insist that an Aramco IPO is pending, even though there are indications that the initial public offering process has stalled. If Saudi Arabia does intend to take its national oil company public, perhaps Apple’s enormous valuation can tell us something about what Aramco should be worth.



1. Profit:

Last month, Reuters reported on what it said were leaked financial data from Aramco for the 2016 fiscal year. According to Reuters, in 2016, when oil prices were low, Aramco profits were $13.3 billion. That was a drop of over 20 percent from the year before, but the drop paled in comparison to the much larger profit drops of competitors like ExxonMobil XOM -0.1% or Royal Dutch Shell .

Aramco’s profit in the first half of 2017 was $33.8 billion, according to an April Bloomberg report. This growth was due to higher oil prices and a significant change in the company’s tax requirements. Saudi Arabia changed the company’s income tax liability from 85% to only 50%. The price of oil has been higher in 2018, and Aramco increased exports this year. The presumption is that profit in the first half of 2018 exceeded $33.8 billion. Again, it is widely assumed that Aramco is the most profitable company in the world.

Typically, analysts have estimated that it costs Aramco between $2 and $10 to produce a barrel of oil, because the oil in Saudi Arabia is so easily accessible. This is the cheapest in the world. Reuters reported that some analysts believe the cost is as low as $1, but if we take the $2 to $10 range we can see about how much Aramco makes on oil per day. Aramco produces about 10 million barrels per day. Much is exported, much is refined internally, and some is sold domestically. At a conservative average price of $70 per barrel of oil, Aramco can see sales minus production costs of $600 to $680 million a day on crude oil. Aramco also has revenue from its downstream operations and a few other business operations like its venture capital arm and some management contracts.

Compare all of this to Apple, which saw profits this quarter of $11.5 billion. It was $8.7 billion a year ago. Apple, like Aramco, sells its product at huge margins. Apple makes great computers and tablets, but Apple’s big product is the iPhone. It is that communications magic that we take with us everywhere which has made Apple worth a trillion dollars.

2. Assets: 

Aramco does not own its oil reserves. Saudi Arabia does, but Aramco operates with an exclusive concession agreement. That means Aramco is permitted to extract oil anywhere in the kingdom, and only Aramco is permitted to do so. Last year Aramco announced that Saudi Arabia had over 260 billion barrels of crude oil in the ground. That number is an estimate, and no one knows for sure, but there are analysts who believe it is too high and others who believe it is too low. At the current rate of oil production and the current estimates of oil reserves, it is believed that Aramco can expect to continue pumping oil for another 70 years.

Compare that to Apple. Apple’s most valuable assets are clearly its intellectual property and its brand. Its engineering prowess and marketing talent are a distant third and fourth. By the time Apple’s patents expire, most of them will likely be worthless old technology. To prosper in the future, Apple must continue to innovate and continue to make its brand impressive . Apple could also choose to diversify in the future, just as it went from home computers to music players to smart phones.

Aramco may run out of oil reserves, but that will not be until after every investor is long since retired and maybe dead. Moreover, as reserves run out, we can expect the value and price of a barrel of oil to rise, thus increasing the company’s profits. Also, Aramco is preparing for a time when its oil production business does not dominate. It is diversifying in downstream operations and investing in alternative energies (such as solar technology) and other green technologies (like carbon capture cars).

3. Cash: 

Both companies are believed to have large hoards of cash. Apple has over $240 billion of cash. That alone justifies one quarter of the trillion dollar valuation. Of course, as cash it is not doing much for the future. We do not know how much cash Aramco has, but we do know that since the 1980s, and especially over the last 20 years, Aramco has used much of its prodigious cash assets to diversify and expand into Asia, North America and elsewhere. Earlier this year, Apple announced a $100 billion buyback program and a 16 percent dividend increase, both of which serve to increase the stock value but not necessarily the future prospects of the company. Aramco, on the other hand, is private so it does not focus on the stock value, and it seemingly uses its cash to expand through new projects or acquisitions.

4. Operating Environment: 

Apple does have a huge advantage over Aramco. It is a U.S. firm and enjoys all of the benefits that entails. Apple not only operates largely in the U.S. with the U.S. legal system, U.S. talent and U.S. stability . Apple also benefits because investors know that and appreciate it. Investors are comfortable with the American system. It is yet to be seen how comfortable investors would be with an energy giant from Saudi Arabia operating largely under the Saudi system. At valuations of these sizes, perception is important.

The crown prince of Saudi Arabia said in 2016 that he believed Aramco could be valued at $2 trillion upon an IPO. That was when the price of oil was much lower, and it seemed to many to be an outrageous claim. A publicly traded Aramco would be worth what the market says it is worth, but in the search for an astronomical valuation it cannot hurt that someone else has already breached the mythical barrier of $1 trillion.

4 Key Oil-Related Events That Investors Need To Know
(also on investing.com)

1) On August 20, the OPEC and non-OPEC Joint Ministerial Monitoring Committee (JMMC) will hold its second teleconference meeting. The last meeting was held on July 18, at which OPEC producers reported that, due to increased oil output, their overall compliance level had fallen to 121%. Whereas the JMMC used to evaluate compliance on a country-by-country basis, this will no longer be the case. It is widely expected, though not discussed outright, that some countries will produce more than envisaged by their individual production quotas, in order to increase the amount of oil on the market. Iran has called out Saudi Arabia and Russia for over-production already, but these admonishments have been mostly ignored. Compliance levels are expected to show further drops, but perhaps less than expected as Saudi Arabia reported that it produced less crude oil in July than it did in June.

2) On September 15, gasoline outlets in the United States will start selling winter blend gasoline. In preparation for this, refineries generally start producing winter blend in August. Refineries typically go offline for maintenance as they complete the switchover, which somewhat lowers oil demand. However, impact on demand should not be shocking, because the switchovers are generally staggered. Winter blend gasoline is cheaper to produce because it contains more butane and fewer blended elements designed to reduce air pollution. Typically, consumers see a drop in gasoline prices after the switchover.

3) On or after November 5, the United States will impose sanctions on anyone or any institution that has “materially assisted, sponsored, or provided financial, material, or technological support for, or goods or services in support of, the National Iranian Oil Company (NIOC).” The first round of sanctions are going into effect this week and include sanctions on anyone or any institution that helps Iran purchase US dollars or gold. There are also sanctions on those who sell, “supply, or transfer to Iran significant goods or services used in connection with the automotive sector of Iran.”

Oil refineries that are still purchasing Iranian oil will be watching to see how the US implements this week’s round of sanctions. They may alter future purchases of Iranian crude oil if they see that the US is serious about these sanctions. Right now, analysts estimate that between 600,000 and 1 million bpd of Iranian oil may come off the market as a result of sanctions. However, that number should be expected to rise if the US implements financial and automotive sanctions strictly.

4) OPEC plans to hold its next regular meeting on December 3, in Vienna. It will be followed by a non-OPEC Ministerial Meeting, at which analysts are hoping the group will reveal details of the new “super-OPEC” institution. The question of whether Russia will maintain its cooperation with OPEC is of great importance. Saudi Arabia has gone to great lengths to keep Russia involved in both supply cuts and increases over the past year and a half, but there remains a possibility that Russia will decide to leave the group and pursue its own agenda. Russia’s participation and cooperation depends entirely on whether that cooperation is seen as furthering the country’s own interest. Will the country still see cooperation with OPEC in its interest if oil prices increase significantly by December? If not, it might very well decide not to join a “super-OPEC” institution. Or it may press for the institution to take the shape of a symbolic group for furthering discussion rather than for setting out measures.

Pipeline Crunch Impact On Shale Oil Companies May Be Overblown 
(also on investing.com)

Despite the record levels reported by the US Energy and Information Agency (EIA) two weeks ago, many analysts expect oil production from US shale oil producers to contract in the second half of 2018. These predictions are primarily the result of reports that producers are facing infrastructure constraints in the prime producing region—the Permian in Texas and New Mexico. The lack of pipeline capacity will force some producers to refrain from drilling new wells and even to shut down some producing wells until more pipeline capacity is added.

This factor was highlighted at the most recent OPEC meeting in June, when the CEO of Pioneer Natural Resources revealed that his company was planning to curb production due to pipeline constraints.

Now, the problem is hitting oil services companies. Halliburton (NYSE:HAL) stock fell almost 8% last week when it not only reported weaker earnings than expected in the second quarter but also warned investors to expect the same in the third quarter as pipeline constraints mean cancelled or delayed projects for oil services companies.

However, this pipeline issue is not actually a concern for all companies. In fact, some companies have secured sufficient pipeline capacity to continue producing at current rates or even to continue expanding production. Exxon (NYSE:XOM), Chevron (NYSE:CVX) and Noble (NYSE:NBL) say they are not concerned about being able to transport their crude oil out of the Permian. ConocoPhillips (NYSE:COP) says it does not have enough pipeline capacity secured for its crude oil in the Permian, but it expects to delay its expansion in the Permian only briefly. Some companies without pipeline capacity have the cash flow to ship their crude by truck or rail. However, this can add as much as $12 per barrel to companies’ costs.

Some producers will continue to grow production by moving rigs from the Permian to other shale oil regions like the Eagle Ford. These kinds of moves do not show up in data like weekly US rig counts. They are only noticed on a regional basis.

The pipeline crunch in the Permian is real, but perhaps overblown if we consider the toll this news is taking on the share prices of US oil companies, particularly large and powerful companies. The Permian region still has significant growth capacity even if producers miscalculated how soon it would face this transportation crunch. Many producers also see potential for growth in other shale oil regions as pipelines are built and export terminals expanded.

If Tesla Falls, Other Electric Vehicles Could Thrive
(also on Forbes.com)

Tesla TSLA +0.9% is holding its quarterly earnings call this afternoon at 5:30 pm ET. There is much speculation about how the call will play out and even how Tesla's founder and CEO will behave. Some analysts are predicting significant trouble ahead for the luxury electric vehicle (EV) company, because of financial issues, sales problems and manufacturing delays. One example is UBS , which forecasts a 30% drop in Tesla's share price in the next 12 months.

But electric vehicle proponents should not worry. If Tesla falters it may portend a brighter future for electric vehicle technology and the EV market as a whole.

Here's why:

First, Tesla's market cap is currently almost $50 billion. It is possible that some of the money invested in Tesla would be better invested in the stocks of traditional car companies with electric vehicle and hybrid programs. Some of those with significant electric vehicle units include BMW, Volkswagen, Kia, and Mercedes. Chevrolet , Mitsubishi , Toyota, Ford, Volvo, Audi and others all produce hybrid gasoline and electric vehicles. These are all experienced car manufacturing companies with overwhelming talent and resources in design, manufacturing, marketing and sales. Tesla is the company that brought attention to electric vehicles but if it falters, investors interested in EV and hybrid technology can direct their money to the most efficient car manufacturers.

Second, Tesla and Elon Musk, together, comprise a lightening rod for the electric vehicle market . All of the attention, both good and bad, tends to be focused on Tesla. It would help the overall EV and hybrid markets if Tesla was not seen as the be all and end all of electric cars. New EVs and new hybrids will be coming. For instance, Volvo just announcedthat its first all electric vehicle will be an SUV, the XC40. This new Volvo will be manufactured exclusively in Charleston, South Carolina. When it launches, it will need to garner its own attention, not as a side show to Tesla and whatever news is coming from Elon Musk at the moment.

We don't know which way Tesla's stock will go after this earnings call. Many Tesla skeptics have been embarrassed before, but if Tesla does falter, that just might be what the overall EV and hybrid market needs.
About Ellen R. Wald, Ph.D.

A consultant and columnist on geopolitics and energy markets, Ellen writes regularly for several major publications. She is the president of Transversal Consulting, a Senior Fellow at the Atlantic Council and an adjunct professor of social science at Jacksonville University where she teaches Middle East history and policy classes. 
 



Dr. Wald is a frequent commentator on radio and television programs. She offers discussion and analysis of contemporary energy issues, with special emphasis on the Middle East. To arrange a media appearance or to discuss her consulting services, please contact her through her website.
 
About "Saudi, Inc."
 
“Saudi, Inc.” presents the history of Saudi Arabia through the central figure of Aramco, the oil company that brought riches, success, and regional dominance to its ruling family, al Saud.  It will be released in 2018, as Saudi Aramco prepares to launch its much-anticipated IPO, expected to be the largest in history with a possible valuation of up to $2 trillion. The book debut will also come amid the Kingdom’s massive investment in its Vision2030 plan for economic diversification; the rebirth of an economic and diplomatic relationship with the U.S. worth hundreds of billions of dollars in investment in both directions; and preparation by the next generation to take leadership positions in the Kingdom – transforming society, business, and the state.
 
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