The arrival of private equity in a Gulf national oil company would once have been regarded like the 1989 book on buyout firm KKR: Barbarians at the Gate. But Abu Dhabi National Oil Company’s new strategy sees it welcoming KKR and its peer, BlackRock, into the fortress. The agreement with the two American companies to receive $4 billion for a stake in the national oil company’s pipelines is a bold move.
BlackRock and KKR will take a 40 per cent stake in a newly-created special-purpose vehicle (SPV) holding Adnoc’s pipelines that transport crude oil and condensate around the emirate. Adnoc will retain its traditional minimum 60 per cent share. Adnoc will pay the SPV a tariff, probably based per barrel transported, for use of the pipelines, over a 23-year period, while it continues to manage the pipelines itself.
Since they completed nationalising most international energy assets in the 1970s and early 1980s, most Middle Eastern national oil companies have zealously guarded the country’s natural resources. Adnoc was something of an exception to this pattern, since foreign companies retained a 40 percent stake in the major oil-producing concessions. These were renewed from 2015 onwards, with a mix of existing and several new partners, and new concessions for gas and exploration were also awarded.
But under its new strategy, Adnoc has also been seeking to open up more parts of its business to investors. Notably, it raised $850 million from an initial public offering of 10 pe rcent of Adnoc Distribution, its fuel retail arm, in 2017, and sold 5 per cent of Adnoc Drilling to Baker Hughes in October, and 35 per cent of its refining unit to Eni of Italy and OMV of Austria for $5.8bn in January.
In November 2017, it issued a $3bn bond for the Adcop pipeline, its main oil export pipeline which runs from Habshan in Abu Dhabi to Fujairah. The bond was rated AA and priced quite close to the current yield for Abu Dhabi government debt. Last week, Adnoc itself was assessed at AA+ by ratings agency Fitch, on a standalone basis, or AA when considering its government links, the same as the emirate itself.
Although it says it has no plans to borrow at the top corporate level, opening up subsidiaries to international finance is intended to bring Adnoc closer to the capital structures of leading international oil companies, which typically have 20-40 per cent debt-to-equity ratios.
National oil companies borrowing is a recent trend in the region, with Petroleum Development Oman floating a $4bn bond in 2016, and Saudi Aramco looking at a $10bn bond, plus bank debt, to finance its purchase of a controlling interest in compatriot Saudi Basic Industries Corporation.
But Adnoc’s model of selling stakes in subsidiaries is a new and different move. Control over its core assets is assured by its retaining management control as well as a majority stake. Bringing in partners is intended to reinforce the mission of making the company more commercially adept and efficient. In some cases, this will build relationships that give access to new deals or markets. KKR and BlackRock, amongst the world’s leading investment firms, are blue-chip partners giving Adnoc a strong vote of confidence.
Freeing up capital from relatively low-return businesses allows it to be redeployed for Adnoc growth initiatives, or returned to the government to aid in building non-oil businesses. And, with the oil business still making up 39 per cent of the emirate’s gross domestic product, it is a strategic imperative gradually to reduce Abu Dhabi’s exposure.
So the rationale for Adnoc to bring it additional capital is clear. What about its new partners?
Infrastructure funds have for some years been interested in owning midstream infrastructure – oil and gas pipelines, storage and terminals – in the US. These were seen to offer safe, predictable returns, which also had favourable tax treatment. The oil companies, meanwhile, were happy to free up capital to invest in the more volatile but lucrative area of producing the hydrocarbons.
More recently, even the US pipeline business has seemed somewhat uncertain. It is booming, because of the continuing vast expansion of oil output from west Texas in particular. But some other areas have lagged behind, and during the recent oil price slump, overall output fell during 2014 and 2015. This would have reduced the tariffs received by pipeline owners, and some oil companies, finding they fell short on amounts they had promised to transport, tried to escape what had been thought water-tight commitments.
By contrast, the Adnoc pipeline deal features a minimum volume of shipments, which presumably will allow for the possibility of some continuing moderate reductions in output as Abu Dhabi complies with Opec agreements. Over the 23-year lifetime of the agreement, Adnoc’s output is intended to rise from its current Opec target of 3.07 million barrels per day to 5 million bpd by 2030, and probably further after that.
KKR and BlackRock may gain access to sales of stakes in other Adnoc entities, as the renowned Henry Kravis, co-chief executive and the second “K” in KKR, mentioned, “substantial potential to do even more”. Future deals could include further selling-down Adnoc Distribution, or attracting investment shares in units such as petroleum ports, shipping, power generation and oil services.
This deal is a reminder that, while oil and gas in the ground is a core national asset, the equipment to produce is not. Forward-thinking countries like the UAE realise the government does not have to do and own everything to manage its energy industry optimally. And while the appetite is there from international investors, now is the time to take advantage.
Robin M. Mills is CEO of Qamar Energy, and author of The Myth of the Oil Crisis
