Does Big Oil Have Saudi Arabia Over A Barrel?

Mounting debt may force it to offer access to reserves

In March, Exxon Corp. CEO Lee R. Raymond and Mobil Corp. CEO Lucio A. Noto are planning a trip. What could induce these execs, who are busy with the biggest merger in history, to take off for a few days? It's simple. They're headed to Riyadh, where they hope to position their new company closer to Saudi Arabia's 261 billion barrels of low-cost oil. Down the line, even a small share of the Saudi reserves--one-quarter of the planet's total--could vastly improve the fortunes of the world's largest oil company.

But is the desert kingdom ready to let Big Oil back in, as it suggested last September? Yes and no. Yes, the Saudis recognize that they need capital and technology from the Western producers they exiled decades ago. But no, they aren't going to offer the cheap oil that Noto, Raymond, and other oil execs were hoping for when the Saudis first suggested new investment last fall.

For now, Saudi Arabia is drawing a line in the sand: U.S. and European producers can help develop the nation's mostly untapped natural-gas reserves. As to finding and lifting oil, not now. This is the message that U.S. Energy Secretary Bill Richardson heard when he arrived in Riyadh Feb. 6 to bang the drum for U.S. companies. "We need U.S. companies for many things, but not for that," says Ali Al-Naimi, Saudi Arabia's oil minister. "This is what we do best. It's our bread and butter."

Still, the oil companies have reason to hope. Despite the apparent backpedaling from the invitation Crown Prince Abdullah issued to oil execs in Washington last September, Saudi Arabia may ultimately have to offer some access to its oil reserves. Why? There are the obvious political reasons to cement a strategic relationship with the U.S. But there's another reason: The Saudi economy is in trouble because of the steep drop in world oil prices, which, despite Saudi hopes, are unlikely to bounce back soon.

As incongruous as it may seem, the Saudis could be in danger of joining economically ravaged nations like Russia and Brazil if they don't attract foreign capital. Saudi Arabia's oil-rich neighbors are already ahead in wooing outside investment. In Qatar, for example, Mobil, France's Total, and other companies have been pouring billions into gas projects. In Kuwait, the national oil company is looking for partners for oil field development. Then, there's Iraq. If and when U.N. sanctions end, Saudi officials fear, it could challenge the kingdom for dominance in the oil market.

These pressures, oil experts are betting, will force the Saudis to open the door, albeit gradually, to their oil fields. And as one U.S. oil exec puts it: "Those companies that can get a foot in the door and do a good job will clearly get the first shot if the Saudis decide they want outsiders to develop new oil fields."

No one is more aware of Saudi Arabia's faltering economy than 73-year-old Crown Prince Abdullah--who is increasingly calling the shots in Riyadh. To plug huge holes in the national budget created by the 40% collapse in oil prices since early 1998, Abdullah is considering sweeping economic reforms, including even a 7% sales tax to narrow the deficit. "Real policy changes are seriously in the wind," says Kevin Taecker, chief economist at the Saudi American Bank in Riyadh.

RIYAL TROUBLE. Saudi Arabia is hardly broke, but it is a one-commodity economy. In 1998, as oil sank, the economy shrank 12%, and 1999 is unlikely to be much better. "For years we thought we were diversifying and finding other income," says Said Al-Shaikh, chief economist at Jeddah-based National Commercial Bank. "But the collapse in oil prices has shown us that diversification has not succeeded."

Incredible as it seems, a Brazil-style meltdown is not unthinkable. Like Brazil, the Saudis have been on a spending binge, which has pushed its national debt to $120 billion, almost 120% of GDP. Even after steep cuts in defense spending, expenses are running $1 billion a month above revenues this year. The Saudi Arabian riyal, like Brazil's real, may face devaluation.

That bleak outlook has pushed the Saudis back toward Big Oil. Riyadh would like $30 billion to $40 billion to harness natural-gas resources for vast new projects in power generation, water desalination, and petrochemicals. The big question is whether companies like Chevron, Texaco, or Exxon Mobil will be interested without the rich profits only oil can bring. Al-Naimi recognizes the problem: "The returns from producing oil are not 10% or 20% or even 100%, they are in the thousands of percent."

But Al-Naimi claims net returns of up to 30% on gas investments should keep companies happy. That remains to be seen. If the Saudis don't get any takers during negotiations later this year, they just may be forced to throw in an oil field or two to sweeten the pot.

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