September 1990, Page 57, 74

U.S. Business Abroad

Three U.S. Firms Land Saudi Contracts for Expansion of Oil Facilities

By John Egan

The Saudi Arabian national oil company awarded three hefty engineering and construction contracts to U.S. firms earlier this year, as part of a Saudi plan to expand the Kingdom's ability to produce oil.

The three contracts, with a combined value of about $600 million, are only a fraction, however, of the estimated $45 billion in capital outlays which the Saudis are planning to spend this decade to boost their ability to pump oil.

The three American companies-Fluor, Parsons and Asea Brown Boveri-will provide engineering and construction (E&C) services to Saudi Aramco over the next five years. Each contract carries renewal provisions which could stretch the work out to the end of the decade. Since all three firms have years of Saudi experience, it is clear that the Saudis wanted to work with companies that had performed successfully in the Kingdom. "Call it the comfort factor," said one veteran oilman.

"The Comfort Factor"

"We are pleased to have been selected to work with Saudi Aramco again," said Les McCraw, Fluor's vice chairman and chief executive, Fluor, based in Irvine, CA, earned $108 million on $6.2 billion in revenue for the year ending Oct. 31, 1989. McCraw said that the Saudi Aramco contracts could be the most significant ones his company has landed in a decade. Fluor will manage expansion of onshore and offshore production facilities as well as oversee the de-mothballing of production facilities in the Kingdom's northern sector.

Asea Brown Boveri will also work in the Kingdom's northern sector, managing a program to increase the readiness of offshore platforms.

The Ralph M. Parsons Co., meanwhile, will manage, engineer and provide other services relating to Saudi oil and gas plants in the Kingdom's southern region. Said Robert Sheh, president of the Pasadena, CA-based E&C giant, "These significant contracts extend our longstanding relationship with the Kingdom of Saudi Arabia." Parsons has managed or built several huge Saudi projects over the last 40 years, including Yanbu, the industrial city on the Red Sea, the 40-square-mile King Abdulaziz International Airport in Jeddah, and a 250,000-barrel-per-day (b/d) refinery at Jubail.

Three other U.S. companies were in the running for the contracts which Saudi Aramco handed out in late June. But while these firms-Bechtel, M.W. Kellogg and Foster Wheeler-failed to land the lucrative construction management contracts, they probably won't go away empty-handed: The three will bid on various subcontractor contracts, including engineering, materials procurement, and actual construction.

Competition from Asia and Europe

The U.S. firms face stiff competition from Asian firms for these contracts, however. Asian subcontractors did most of the actual brick-and-mortar construction work for the mega-projects awarded by Saudi Arabia in the 1970s, and some experts say the Asian firms will have the inside track on those jobs this time around.

U.S. firms face severe competitive disadvantages when operating overseas. Unlike European governments, the U.S. taxes the incomes of its citizens who work overseas. As a result, "U.S. engineers are pretty high-priced," remarked one oil executive who has grappled with the problem.

Saudi Arabia. . . is one of the few countries in the world which can expand production to help meet the world's increasing demand for oil.

The Saudis are spending money today so that they can make more money in the future. World oil demand continues to grow and Saudi Arabia, with proven oil reserves of some 250 billion barrels, is one of the few countries in the world which can expand production to help meet the world's increasing demand for oil.

The world will consume about 65 million b/d this year, but industry analysts expect world consumption to reach 75 million b/d or more by the year 2000. By then, Saudi Aramco wants to produce 10 million b/d, a sharp increase over its current ability to pump seven million b/d. Under OPEC's current production quota system, the Kingdom can only produce about 5.3 million b/d. But, during the 1990s, oil production will decline for several OPEC members, as well as non-OPEC producers like the U.S., Mexico and the United Kingdom. The Soviet Union is the world's largest oil producer, pumping nearly 12 million b/d last year, but experts say the USSR's oil fields will start running down in the coming decade.

That leaves Saudi Arabia, Kuwait, Iran, Iraq and the United Arab Emirates as the five countries willing and able to increase their daily production to meet the expected increase in world demand. All five Middle Eastern countries have started expanding their oil production capacity. But the Saudis, who have the world's largest proven oil reserves, have been the most aggressive in expanding their production facilities.

Fluctuating World Oil Prices

After Iran's Islamic revolution turned off that country's oil spigot in 1979, Saudi Aramco dramatically increased its production to about 10 b/d. Increased Saudi oil production helped meet world demand, but prices soared.

High oil prices led to the development of more fuel-efficient cars, which helped cut world oil demand by the mid-1980s. Then, when world oil supply exceeded demand, the Kingdom sought to persuade all OPEC members to accept lower production quotas. When some didn't, Saudi Arabia fought a price war with other OPEC members to preserve its share of an oversupplied world oil market. The 1985-86 price war, which briefly pushed oil prices below $10 per barrel, was welcomed by consumers.

But as overproduction pushed down the price of oil and cut the amount of cash entering the Kingdom, Aramco mothballed at least three million barrels of production capacity during the late 1980s. It also deferred several development projects and stopped maintaining some facilities.

Saudi Aramco will have to pay heavily to restore production to the 10 million b/d mark. The desert's corrosive destruction of pipes and other oil production equipment is evident in both mothballed and existing production facilities, say analysts. Also, de-mothballing, some facilities can be almost as expensive as building them from scratch, they add.

Funding the capital outlays won't be easy, particularly with Saudi Arabia's estimated $8 to $10 billion balance of payments deficit this year. Iran and Iraq, financially debilitated after nearly a decade of war, have the same dilemma: plenty of oil reserves but little cash.

For that reason, OPEC Secretary General Subroto of Indonesia has toured world capitals throughout much of 1990 with one message: The world's oil producing countries cannot by themselves pay the massive bills associated with expanding their oil production capacity.

"During the 1970s and early 1980s many OPEC countries rang up huge debts, and this debt overhang is why most countries can't simply borrow the money to finance the expansion," said Patrick Connolly, a senior consultant with Cambridge Energy Associates. While in some economic pain, Saudi Arabia is more able to approach commercial bankers for loans pegged to the future production of oil than are Venezuela, Indonesia or Iraq, he told the Washington Report.

"The banks are not going to be the most obvious source of capital because they have cross-border lending problems and country loan limits," commented Connolly. "The banks are tremendously exposed in the Third World."

That's one reason why OPEC's Subroto has asked the world's major integrated oil companies to consider lending money to the cartel's members so that they can expand their production facilities. So far few companies have stepped forth.

Connolly estimates the world's 25 largest oil companies will generate about $250 billion in cash flow over the next four years, but capital spending will total only about $185 billion, leaving $65 billion or so in surplus. "The surplus, and its disposition, is going to be a very strategically important factor over the next four to five years," he says.

Saudi Aramco's expensive expansion program will be watched closely by the oil industry and commercial bankers throughout the world. To date, at least three U.S. engineering and construction firms are happy with what they see.

John Egan, a Washington-based free-lance writer, was managing editor of the Washington Report on Middle East Affairs in 1986-87.