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Oil & gas/petchems: focus on downstream Faisal AlAzmeh, CFA >> Merrill Lynch KSA Company faisal.alazmeh@baml.com Focus on downstream expansion is a priority An increased focus on downstream expansion is a strategic development priority in Saudi Arabia, with the aim of exploiting competitive advantages on feedstock costs and the strategic location. Furthermore, the government sees it as a mechanism to create job opportunities for nationals. We see the NTP natural gas target as optimistic as it faces many hurdles, while imports could be a better alternative which authorities now suggest they could be open to eventually. Downstream chemicals represents the second largest focus of the NTP The NTP is firmly focused on the integration of chemicals/refining/mining capacity into value-add downstream operations that would limit imports of certain products and provide technology transfer into the Kingdom. This accompanies the government’s plans to expand its natural gas and refining capacity by 48% and 13%, respectively. The NTP includes a sizeable allocation to the Royal Commission for Jubail and Yanbu, the government body that overlooks, promotes and develops the petrochemicals/energy-intensive/mining sectors in the Kingdom. The government plans to spend around US$10.9bn on developing various areas including: 1) the oil-to-olefins (OTC) complex in Yanbu; 2) colleges and institutes in Jubal Industrial area; 3) the necessary infrastructure in the community area of Yanbu Industrial City; and 4) value- add transformation industries in Raas AlKhair Industrial City. Table 24: NTP focus for the Royal Commission of Jubail and Yanbu Key focus areas US$mn Development of the OTC project 772 Development of colleges and institutes in Jubail Industrial City 731 Development of infrastructure in Yanbu 1,003 Development of residential areas in Jubail Industrial City 642 Development of Multi-Modal Logistics Hub in Yanbu Industrial City 543 Development, protection and rehabilitation of public facilities in Jubail Industrial City 954 Development of value-added transformation industries in Raas Alkhair Industrial City 805 Construction of Housing in Jubail Industrial City 538 Development of Mineral industries port in Yanbu Industrial City 556 Other infrastructure and projects (38 projects, size between 100mn to 500mn) 4,557 Total 11,101 Source: Saudi National Transformation Plan Subsidies are likely to be needed A key obstacle to building more refining capacity and a large OTC complex is the high capital intensity of such projects and the subsidies required to ensure an acceptable rate of return. We see the natural gas target as optimistic with many hurdles; importation could be a better alternative. We believe the government plans to reduce subsidies in water and electricity, but maintain them for feedstock prices as intensive natural gas production requires cheap gas to thrive. However, a move towards benchmarking to US gas prices is a likely and logical step, in our view. An alternative scenario would to mark natural gas prices in the Kingdom to the LNG netback out of Qatar. This would facilitate an additional US$2.5bn from the sector but would also put several companies at risk of becoming loss making (especially companies with a high content of heavy feed in their input mix). Should such a scenario take place, we believe implementation would be carried out over phases in order to allow companies to cope with the new pricing order. OS Merrill Lynch GEMs Paper #26 | 30 June 2016 69 HOUSE_OVERSIGHT_016179