RIYADH—Officials at Saudi Arabian Oil Co. have told their superiors there is a hitch in the plans to take the state-owned oil company public: It is likely worth at least $500 billion less than the government previously suggested.
The country’s deputy crown prince, who is leading a push to overhaul the economy, has pegged the value of the company known as Saudi Aramco at $2 trillion. But officials working on the deal have struggled to come up with a scenario under which Saudi Aramco is worth more than $1.5 trillion, according to people familiar with the matter, even after factoring in a recent tax cut and other tools the government has to make it more attractive investors.
By selling up to 5% of shares in an initial public offering targeted for next year, the government plans to raise billions of dollars that it can use to invest in other industries as part of a plan to reduce its heavy dependence on oil.
The valuation discrepancy raises new challenges for a deal that is already fraught with complexity and facing opposition within the ranks of the kingdom’s government bureaucracy, according to people familiar with the matter.
About two dozen employees have been working since last year to try and figure how to take Aramco public, and have been working with Western consultants to explore ways to restructure Aramco to maximize its value, say people familiar with the process.
The team has determined several variables—or what some call “levers”—likely to affect the price investors will pay for shares of the world’s largest oil producer, according to internal documents reviewed by The Wall Street Journal and people familiar with the process.
But no matter how they pull those levers, which include the price of oil and Saudi tax policy, Aramco’s projected value tops out at about $1.5 trillion, these people say.
The Saudi government last month said it is reducing Aramco’s tax rate to 50% from 85%, bringing its tax rate closer to the level of the world’s biggest oil companies such as Exxon Mobil and Royal Dutch Shell.
That move would result in higher dividends for potential shareholders, and it brought Aramco’s internal value estimates to $1.3 trillion to $1.5 trillion from about half a trillion dollars, say people involved in the process.
Members of the internal Aramco IPO team took their figures to the company’s chairman, Khalid al-Falih, who is also Saudi Arabia’s energy minister, say people familiar with the matter.
One of those people said some of the Aramco team members are concerned because their calculations have consistently yielded lower numbers than the one the prince disclosed.
Saudi government officials say Aramco’s high reserves and low costs should make the company attractive to investors. “Our profitability is higher than others and the interest we have received so far is huge,” said one official who defended the $2 trillion number.
Some of the banks pitching for a role in the advising and underwriting of the deal have been given minimal information on the company’s financials, one person familiar with the pitching process said.
Bankers have offered company executives advice on how they might position the offering to investors to garner the highest valuation and how Aramco would compare with other oil and gas companies, this person said.
Yet even absent the specific financial information, this person said that it appeared highly unlikely that Aramco could achieve a valuation anywhere near $2 trillion unless it paid no taxes or royalties.
Since deputy crown prince Mohammed bin Salman announced the stock-offering plan and his $2 trillion estimate early last year, insiders and outsiders have questioned how he arrived at that number.
One Aramco official called the figure “unrealistic and mind blowing.”
A lower valuation means the IPO would fetch less money for the kingdom to invest under the Vision 2030 plan championed by the deputy crown prince.
Also, the remaining Aramco shares in Saudi hands would be less valuable than the prince forecasts, lowering the amount of money the kingdom could borrow against those shares to fund economic diversification.
Of course, regardless of where the company sells shares to the public in an IPO, its market cap or valuation will change as soon as it starts trading as investors make daily determinations of its current and future value.
Aramco produces nearly 10 million barrels of oil a day, more than twice the output of Exxon Mobil, which is valued at $337 billion. Aramco has among the world’s lowest production costs—Saudi oil tends to be cheap to pump—and says its reserves total about 260 billion barrels.
But shares in state-controlled oil companies tend to trade at a discount to their independent peers, largely out of investor concern that a controlling regime could make decisions that don’t benefit minority investors.
For example, there is no way to be assured the tax rate will remain at 50%, said Nat Kern, president of Washington-based consulting firm Foreign Reports, which focuses on the Middle East and oil. “Most oil-producing countries are taking about 90% of crude sales” in taxes and other payments, he said.
Questions about Aramco’s valuation surfaced earlier this year when a report for potential investors prepared by oil-industry consultant Wood Mackenzie Ltd. put Aramco’s value at around $400 billion, according to a client who attended a private Wood Mackenzie briefing. The estimate, based on the 85% tax rate, surfaced in other media.
That number was also close to an internal estimate Aramco’s IPO team came up with before the tax rate was reduced, say people familiar with the matter.
Now, some officials inside the company and in government have privately suggested reevaluating the listing, say people familiar with the matter, and perhaps reducing its size or delaying it.
So far, Prince Mohammed and his staff seem unlikely to do so, say people familiar with the matter. “This IPO will happen regardless of the valuation they may receive,” according to the government official who called the $2-trillion-dollar number “mind-blowing.”
—Maureen Farrell contributed to this article.