Industry Report- Saudi Arabia Energy Industry

The Impact of multinational
companies
A case study of the energy industry in Saudi Arabia

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Abstract
Globalization has become the essence of international trade and has been the primary reason why
companies have gone beyond their national boundaries and setup production centers in different
countries. As a consequence, consumers today are getting high quality, low priced and
technologically enhanced products and services all over the world. Some commodities that have
been widely affected by globalization are oil & gas, our primary sources of energy. World
energy sector has been booming as giant corporations go to different countries in the search of
new sources of energy. Saudi Arabia since its inception and the discovery of oil has been the
center of the world oil trade and politics. It plays a major role in the supply of oil and keeping the
prices in balance. So, it naturally attracted the major oil exploration and production giants from
all over the world to extract the biggest source of energy. This paper gives an overview of the
multinationals operating in the Saudi Arabian energy sector and how they have impacted the
growth of the sector.
This dissertation through use of secondary resources and qualitative analysis intends to add value
to the existing literature by bringing out a new perspective in the international business research.
Literature Review forms the base of the dissertation and is essentially divided into three parts.
The first part explores the existing theories relating to Multinational companies and
Internationalization. It explains the evolution of the theories and presents counter views on the
internationalization of companies. The second part talks about the macroeconomic environment
of Saudi Arabia using the PESTLE framework and describes the factors any company should

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consider before investing in Saudi Arabia. The third and the last part of the Literature review we
discuss the energy sector of Saudi Arabia and the major companies operating in it. It uses the
well known Porter’s Five Forces model to understand the competitive structure of the Saudi
Arabia energy sector.
The next section of the dissertation is key findings where the information received from the
previous section is analyzed. The impact on the energy sector is discussed followed by the gaps
in the existing studies and the future prospects of the Saudi Arabian energy sector. The
dissertation concludes by summarizing the key findings obtained from the various studies and
paves way for further research on this topic.

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Contents
Part 1 of the dissertation ........................................................................................................... 4
1. Introduction........................................................................................................................... 4
1.1. Background and Rationale of the Research ................................................................... 6
1.2. Aims & Objectives of the Research.............................................................................. 8
1.3. Key Research Questions.................................................................................................. 9
2. Literature Review................................................................................................................ 10
2.1. Overview of Multinational Companies: Definition & Theories.............................. 10
2.2. PESTLE Analysis of Saudi Arabia.................................................................................. 15
2.3. Energy Sector Structure in Saudi Arabia.................................................................... 23
2.4. Porter Five Forces Model for analysis of Energy Industry ..................................... 24
2.5. Major Companies in the Energy Sector in Saudi Arabia........................................ 30
References for Part 1 ................................................................................................................ 35
Part 2 of the dissertation ......................................................................................................... 39
3. Research Methodology ..................................................................................................... 39
4. Key Findings & Discussion ............................................................................................... 46
4.1. Impact on the growth of Saudi Arabia Energy Sector............................................ 46
4.2. Gaps in the existing studies ......................................................................................... 48
4.3. Future Outlook of the Saudi Arabian Energy Industry ........................................... 50

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5. Conclusion ........................................................................................................................... 57
References for Part 2 ................................................................................................................ 60
Part 1 of the dissertation
1. Introduction
In this era of globalization, there has been a fundamental change in the way international
business is being done. Due to the ease of communication and advances in the sophisticated
communication systems more and more companies are becoming global and expanding their
operations and creating production facilities away from their home countries. This trend has
given rise to today’s Multinational Corporations (MNCs) whose role in the international scene is
increasing rapidly. With increased international development and cooperation, the MNCs have
been able to create such a network that their budgets, organizational structure and influence on
the world trade stage rivals many nations (UN Conference Proceedings, 2006). With their
immense economic power and strong political connections and the fact that globalization is seen
as a ―Business driving phenomenon‖, MNCs are in a strong position to influence the economies

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of the countries they operate in (Nourafchan, 2011). Today, MNCs not only impact the trade and
the economy of the nation in which they operate but also impact the social and cultural aspects.
In the world energy market dominated by oil, the role of multinational companies in the oil
exploration and supply has been tremendous. As oil became the most important commodity in
the energy market, the Multinational oil companies found new markets and opened up sites in
various countries to produce and supply crude oil and petroleum products. With increasing
demands in the oil, there was a need of inexpensive supply of oil and this led the MNCs to the
shores of South America, Pacific countries and Middle East countries. Saudi Arabia with its vast
amount of oil reserves became one of the most important oil production destinations in the
world.
Saudi Arabia has been blessed with huge amount of oil and natural gas resources that essentially
drive the economy of the kingdom and form a huge part of their energy industry. The Saudi
Arabia Energy sector is mainly dependent upon its petroleum resources. Electrical energy is
mainly produced in thermal power stations that are run using natural resources. The demand for
energy is increasing due to industrialization and growing population by around 7% per year. To
meet the demand, the government has taken several steps like consolidation in the energy sector
and has created a public company called Saudi Electric Company to manage the energy
operations. The government has also lowered restrictions on Independent Power producers
(Federal Research Division, 2006)
Foreign investment in Saudi Arabia has a complicated history since its inception in the oil energy
sector. It started in 1933, with a concessional agreement between the Saudi Arabia Government
and the Standard Oil Corporation of the United States to explore oil in Saudi Arabia. Further, the
establishment of Arabian American Oil Company (Aramco) in 1944 was another significant step

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in this direction. In 1988, Saudi Aramco was established as the National oil corporation of Saudi
Arabia that took full control on oil exploration and supply activities in Saudi Arabia. Saudi
Arabia’s Accession to World Trade Organization (WTO) is also considered a major step in its
integration into the modern international economic relations (Law Teacher, 2011). After several
years of negotiations and trade agreements, Saudi Arabia became a member of WTO in 2005 in
order to achieve sustainable growth, increase international trade cooperation and for creating
stable and beneficial conditions for foreign investment. This has led to favorable conditions of
foreign investments in the country as MNCs are no longer required to take Saudi partners (except
banking and insurance services)(Law Teacher, 2011). The government is also encouraging
foreign investments in several sectors including energy and power.
This dissertation analyses the impact of the multinational companieson the various aspects of the
Saudi Arabian economy through the example of the Saudi Arabia energy sector.
1.1. Background and Rationale of the Research
The development of Saudi Arabian Economy goes hand in hand with the development and
expansion of its energy sector. During the last 70 years the idea of building the state, fortified by
oil revenues distributed through the modern institutions of bureaucracy, has worked to unify this
economically diverse country(Mongabay, 2011). The establishment of the ―Kingdom of Saudi
Arabia‖ that led to the unification of diverse regions and the discovery of oil in 1938 can be
considered major events that have shaped its economy. The rebuilding of Europe after the World
War II also played a major role in solidifying Saudi Arabia’s position in world oil industry.
These events led to an exponential increase in the oil revenues of the kingdom and resulted in
widespread economical changes and a shift from the traditional economy.

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Due to its prominent location as the oil hub of the world Saudi Arabia became an important part
of the West’s strategic plans. Moreover, a steady flow of oil was considered as an essential
element for the worldwide economic development. For United States, the importance of Saudi
Arabia as a trade partner became clear during the Gulf war of 1991, when they sent troops to
expel Iraq from Kuwait. Saudi Arabia was clearly seen as the biggest oil producing country that
had the excess capacity of crude oil production and a strong hold on the oil supply and prices.
Globalization has affected almost every citizen of the world and this through is very well
reflected in the products and services we used today. Multinational companies have served as the
carriers of growth and development in international trade, economic development, human
resource development and industrialization across national boundaries (Mababaya, 2002). They
are also responsible for advanced technology transfer and innovative products availability across
the national boundaries. In all they are affecting every sphere of business cycle across globe and
adding to the human welfare by providing products and services that were not available before.
Multinationals in Saudi Arabia have been playing the role of country’s development through
numerous joint ventures, contracting projects, outsourcing projects, consulting & financing
activities and in return they have enjoyed beneficial business conditions from the government of
Saudi Arabia. The energy sector in particular has seen many International companies like Exxon
Mobil, Shell, and Conoco Philips setting up oil exploration and production projects in Saudi
Arabia. It can be safely said that their contribution in the development of the Saudi Arabian
Energy sector and the economy as a whole cannot be ignored and needs to be studied in detail.
Moreover, the effect of MNC’s on Saudi Arabian society and culture needs to be understood in
detail.

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There aren’t many research studies that have been done in this particular are. Some studies talk
about the Role of Multinationals in Saudi Arabia, but do not focus on the energy sector in
particular. At the same time there are various studies and reports on the energy sector in Saudi
Arabia. But there is hardly any study that links the impact of multinationals and the energy sector
in Saudi Arabia. Hence, this dissertation brings out a completely new view on this topic and
would be a good add on in the research domain of international business.
1.2. Aims & Objectives of the Research
The main aim of the dissertation is to understand the impact of the various multinational
companies who have invested in Saudi Arabia Energy by studyingits business environment,
structure and policies and the factors that have been affected the most. The dissertation strives to
achieve the following objectives –
 To review the existing theories on internationalization and multinational companies
 To understand the Saudi Arabian Energy Sector in terms of its major players governance
structure, investment policy and other factors
 To review the latest trends in the Saudi Arabian foreign investment policy, especially
after its accession to WTO
 To review the growth of major international companies having operations in Saudi
Arabia in the energy sector
 To identify the factors that play a major role in the successful operations of MNCs in
Saudi Arabia
 To understand the working environment for the international companies
 To understand the impact of the multinational companies on the energy sector growth and
its future prospects

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 To evaluate the effect of unconventional sources of energy on the growth prospects of
Saudi Arabia Energy Sector
1.3. Key Research Questions
This dissertation aims to answer the below mentioned research questions –
 How is the macroeconomic environment of Saudi Arabia for foreign investors?
 What are the latest trends in the Saudi Arabia Foreign Direct Investment policy?
 What is the structure of the energy industry in Saudi Arabia?
 What are the major players in the Saudi Arabian Energy industry and their significance?
 What is role played by the multinational companies in developing the energy sector in
Saudi Arabia?
 What is the impact of the multinational companies on the economy and the growth Saudi
Arabia?
 What is the impact of unconventional sources of energy on the Saudi Arabia Energy
sector?

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2. Literature Review
Literature Review is the process of gathering and evaluating information on the chosen topic
from a wide variety of sources. Literature Review as a section is the most important section of
the dissertation as it provides the independent views of previous studies done on the topic and
this knowledge helps to create a consolidated view to assess the chosen topic. This section helps
in understanding the sub topics through an array of readings and builds the base of the
dissertation. Literature Review should be clear and concise, well structured so that the reader of
the dissertation understands the depth of information and the reasons of choosing the topic
(Loughborough University, n.d.)
2.1. Overview of Multinational Companies: Definition &
Theories
A Multinational Enterprise (MNE) or Multinational Corporations (MNC) can be generally
defined as an organization operating in several countries but managed from one home country
(Business Directory, 2011). Another definition given by (Caves, 1996) states “Multinational
corporation is a firm which control and organize production using plants from at least two
countries”.
Multinational companies can be found in four different forms – 1) A decentralized organization
with a strong base at home 2) A global centralized organization with major operations
concentrated at one place 3) International company that builds on Parent company’s brand name

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, technology or product 4) A transnational enterprise that companies the previous three
approaches (Business Directory, 2011).
A study by UNCTAD shows that the number of Multinational Corporations in the world is in the
excess of 63,000 and they contribute to about 25% of the world’s output and employ about 83
million people (Ionescu, n.d.). About 2/3rd
of world’s export is manufactured by MNCs
(Dunning, 2003).
Multinationals are being considered as the most flexible actors in promoting globalization
(Ionescu, n.d.). The contributions of MNCs in the country they operate in are multifold – cross
border value adding transactions, joint ventures, project management, increase in the
investments, infrastructure upgrade, job creation and others. Some of the important organizations
that affect the evolution of any multinational company are WTO, IMF, OPEC, UNCTAD and
regional associations like European Union and Arabian states.
There have been various theories developed to understand the concept and trends of the MNCs.
Some of them focus on the international production and FDI, while others are talk about other
modes of internationalization such as joint ventures, subsidiaries or licensing. According to
(Ietto-Gillies, 2003), it was the era of 1950s and 1960s which saw the inception of the trend of
FDI by most Western companies and then it flowed towards the developing countries. One of the
well known theories of internationalization was developed by(Hymer, 1976) which was based
upon two critical components – 1) Concept of Control that differentiates between a company’s
intention of FDI or other modes of internationalization 2) Market imperfections – that explain
why firms want to invest abroad. Another author (Vernon, 1966) bases his theory of
internationalization on dual concepts of – 1) International product life cycle and 2) Theory of
trade based on technology gap. He states that product innovation is the key to

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internationalization as it gives the firm to exploit the markets at home and when the product
reaches maturity they can exploit the same abroad. He further iterates that as the product goes
from innovative to maturity phase in one country there is a need to find new markets for it. Thus,
innovation and technological changes form the main base of Vernon’s theory.
Most of the other theories of internationalization find their roots in the theory developed by
Ronald Coase who states that firm grows as a result of attempts to economize on the costs of
market transactions (Coase, 1937) and (Coase, 1991). This theory was further developed by O.E.
Williamson who applied the concepts of transactional costs to explain the development and
growth of a modern organization (Williamson, 1975) and (Williamson, 1981). This approach is
different from that of Hymer and Vernon and as it places transactional market imperfections at
its core as opposed to imperfections of structural types. To summarize, market imperfections
generate cost issues and uncertainties that can be avoided by internationalization and hence the
concept of FDI and the MNC.
Another expert, John Dunning has been a major figure in the internationalization theory domain
and has developed a theory called ―systematic theory‖ or a ―paradigm‖. His framework answers
basic questions like why do MNCs engage in new markets, what method of internationalization
they choose, how the country of investment is chosen and others. His three point proposed
framework helps to answer the above mentioned questions. He points out that a firm can have 3
types of advantages- 1) Ownership advantages – To determine why a firm is better placed than
its rivals to go ahead with the foreign investments 2) Location advantages – It explains why a
particular location is chosen and why it is preferred over any other location 3)
Internationalization advantages – It explains under what conditions will the firm choose direct
production or licensing (Dunning, 1977) and (Dunning, 1980).

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Another thinker Cantwell has put forward a modern and evolutionary approach to explain the
growth of MNCs. His model is based on the concept of innovation and technological
accumulation. It is different from the theory of Vernon has his model was that of technology
transfer while Cantwell model proposes technology creation and diffusion. He explains that
firms invest in innovation in order to stay head of their competitors. They invest in several
centers and gain experience from the diverse environments. The resulting benefits would spill
over to the other industry and locations where the firm operates. Thus, there is a technological
diffusion taking place (Cantwell, 1989) and (Cantwell, 2000).
Thus, the different theories that have been highlighted are different and yet have many common
points.
The evolution of the MNCs is not always helpful to the countries in which they operate. Two
views have been propagated about the impacts of multinational companies in a country. The first
view argues whether the multinational companies actually help in the development of the host
country and whether national states have to defeat their interests against multinationals (Ionescu,
n.d.) There is sometimes a standoff between the intentions of a multinational company of
maximizing profits and the legislations of the country they are operating in. It is alleged that
Multinational firms driven by their own profit maximization agendas tend to propagate
destructive competition and try to manipulate the entire economies. Due to their large scale
operations they are perceived to be sole profit making entities and encouraging practices like
sweat shops and child labor.Moreover, there are other concerns like loss to the domestic
industries, environmental issues especially in case of oil & gas industry.It is also perceived that
MNCs tend to exploit the labor and the natural resources of a country. This leads to protectionist

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policies by the host country resulting in trade barriers, closing of economy, high taxation, limited
operations etc.
The second view counteracts the first view and proposes the benefits of the MNCs in the
developing world. One of the reports called Home and Host Country Effects of FDI (NBER
Working Paper No. 9293), the author Robert Lipsey propagates there is very little evidence that
MNCs are guilty of the many evils that they have been accused of (Robert Lipsey, n.d.). The
study was undertaken to find out whether foreign investments by a multinational firm actually
lead to unemployment, depressed wages and exploitation of cheap labor as widely believed by
the critics of globalization. His research shows that the benefits of MNCs in the host country are
multifold as they not only pay higher wages as compared to the national companies but also tend
to increase productivity through their sophisticated large scale operations. Another author, Gary
Quinlivan in his article ―Multinational Corporations: Myths and Facts‖ has countered the critics
of globalization and MNCs by presenting a view that global competition is not destructive, but
rather has benefitted the entire world by giving high quality, diverse and low priced products
(Quinlivan, 2000). He strengthens is point further by stating that there are studies that show
foreign investment in the host country has actually boosted domestic investment. Two studies
cited by United nation’s ―World Investment Report, 1999‖ gives evidence that ―an additional
dollar of foreign direct investment increases domestic investment in a sample of sixty-nine
developing countries by a factor of 1.5 to 2.3‖ (Quinlivan, 2000). The study by Quinlivan further
dismisses the notion that MNCs siphon jobs from high wage to low wage countries. Evidence by
World Bank and United Nations strongly supports the view and further concludes that MNCs
have been a key factor in the welfare of developing countries in the past forty years. MNCs no
matter make profits but that doesn’t mean it is at the expense of the host country. It is mutually

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beneficial as the host country also receives bigger tax base, investments, jobs and better
technologies.
Thus, we can see that both critics and proponents of the MNCs have different views, but given
the growth of MNCs it is evident that the positives are more than the negatives.
2.2. PESTLE Analysis of Saudi Arabia
As we have seen from the previous section, one of the biggest concerns for any multinational
company that wants to invest in other countries is to consider its macroeconomic environment.
Some of the factors that determine the macroeconomic environment of a country are Foreign
Direct Investment (FDI) policies, tax rules, trade laws, government policies, demographic
changes and political outlook. The knowledge of these factors helps the organization and its
managers to decide the quantum and the period of investments. It also helps in determining the
type of investments whether a joint venture, wholly owned subsidiary or just a representative
office (Oxford University Press, 2007). One of the most important and widely used frameworks
to assess any country’s macroeconomic environment is the PESTLE analysis framework. Using
this framework we can analyze any country’s macroeconomic environment on six important
factors viz. Political, Economic, Social, Technological, Legal and Environmental.
“A PESTLE Analysis is one of the most important frameworks of macro-environmental scanning,
framework which comprises the most important factors used in environmental scanning, as part
of advanced strategic management”
- (Marketing Minefield, 2011)
Saudi Arabia as a country has risen tremendously due to its oil reserves and offers wide
opportunities for the multinational companies. However, rising incomes has not entirely

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benefitted the majority of population resulting in unemployment and income inequality. More
over its education sector is not well developed. The government has not done enough to improve
the status of women. Environmental regulations also need to be improved. So considering such
issues it is important for any multinational company to undertake an in depth analysis of Saudi
Arabian macro environment before investing in it. The figure given below summarizes the
PESTLE analysis of Kingdom of Saudi Arabia –
Figure: PESTLE Analysis of Saudi Arabia. Source (By the author, adapted from (DataMonitor,
2008))
HF Highly Favorable
F Favorable
LF Less Favorable
PESTLE
ANALYSIS OF
SAUDI
ARABIA
Political
Analysis
(F)
Economic
Analysis
(HF)
Social Analysis
(LF)
Technological
Analysis
(F)
Legal Analysis
(HF)
Environmental
Analysis
(F)

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Political Analysis
Kingdom of Saudi Arabia’s political system has remained unchanged since its current existence
in 1932 and is currently ruled by King Abdullah. The regime is intolerant to any opposition
parties and has restrictions on media. The country has a strong influence in the Middle East
region as far as regional politics is concerned and is going to have a major say in World Oil
prices in the years to come. Its political environment remains stable given King Abdullah’s
popularity and good relations with the religious leaders. The table given below summarizes the
political landscape of Saudi Arabia –
Current Strengths
Stable Government and stable policies - Due to the fact that Saudi Arabia is being ruled by the
members of the same dynasty, it is political stable and the policies have been stable without any
radical changes.
Legislative Reforms - Due to the establishment of the Central government, there have been
improvements in the legislative process. The Central council nominated by the king advises the
country on the formulation of general policies.
Current Challenges
Lack of Democratic Setup – Saudi Arabia is ranked very low on one of the World Bank
Governance indexes of Voice and accountability due to restrictions on media, political parties
and freedom of expression
Poor implementation of regulations- Saudi Arabia’s performance in keeping up with laws and
control of corruption has been poor and moreover its rank in governance and quality of
regulation do not match up to acceptable standards.
Future Prospects

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Policies for economic and social reforms – Government has taken steps in the direction of
improving foreign investment and infrastructure and social living through improve education,
healthcare and women empowerment. Accession to WTO is one of the major steps.
Future Risks
Security Risks – Due to its location and its oil reserves Saudi Arabia could be a potential target
for Islamic extremists from the neighboring countries.
Table: Political Analysis of Saudi Arabia
Economic Analysis
Saudi Arabian economy has grown at a constant average rate of about 5% since 2003 and even
during the global crisis of 2008 it showed a growth rate of around 3.4%. Government has taken
several economic initiatives like opening up of power, oil, telecommunications and
petrochemicals to the private sector. The foreign investment policies have been eased up to
increase the FDI. Some of concerns relating to the economy are unemployment, inflation and a
possible decline in the oil prices.
Current Strengths
Strong and stable GDP growth& Government Finances – The economy has been showing
strong growth and the performance of all the sectors has been positive. The country enjoys
positive trade balance and its current account balance has significantly increased from 7.6% in
2000 to 24.5% in 2007 as a percentage of GDP.
With increasing oil revenues the government finances are in good shape. The fiscal balance is in
the range of 15-20% of GDP. The government debt as a percentage of has reduced significantly
from 93.3% in 2001 to 19% in 2007.
Current Challenges

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Unemployment concerns – Despite its fast economic growth, the education sector in Saudi
Arabia has remained underdeveloped leading to a dearth of required skills to succeed in the
business environment. This has given rise to unemployment which stood at around 26% in 2007.
Future Prospects
Increase in infrastructure spending -The economy would be boosted by huge investments by
the Saudi Arabian government in the infrastructure space. Projects equivalent to $480 billion are
in place for various sectors like oil & gas, petrochemicals, transportation and others. The
government is also promoting public-private partnerships (PPP).
Future Risks
Global Economic Slowdown – Due to the global crisis fears there is a possibility that oil prices
would decline. Moreover, there are inflationary fears and the weakening of the currency. Also,
discovery of unconventional sources outside Saudi Arabia could lead to decrease in reliance of
Western countries on Saudi Arabian oil.
Table: Economic Analysis of Saudi Arabia
Social Analysis
Saudi Arabia has ranked low in terms of Human Development Index (HDI) as compared to the
other countries with similar GDP. The society remains conservative and the quality of living is
low as compared to developed countries. Healthcare facilities also need investments and
upgrade.
Current Strengths
Comprehensive Social Security system- Government has developed a robust social security
system aiming at the welfare of citizens with schemes such as aids to poor, pensions to the old,
land and house loans to all citizens, social development in small town and cities etc.

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Young society – One of the advantages for Saudi Arabia is its relatively young population with a
median age of 21.5 years.
Current Challenges
Low rank on HDI and Income inequality–Saudi Arabia scores low in HDI and Gender related
development index (GDI). One of the reports by UNDP shows that Saudi Arabia ranks 144/156
in both HDI and GDI values. Also, growing income inequality is a major cause of concern and
can result into social unrest among the population.
Future Prospects
Government Reforms for improving Quality of life– Investments in healthcare, women
education, steps for poverty reduction and disabled care are some of the initiatives undertaken by
the Saudi Government. The budget for healthcare and social affairs was about $11.84 billion in
2008.
Future Risks
Restrictive immigration policies & growing populationneeds are some of the risks that Saudi
Government would face in the future.
Table: Social Analysis of Saudi Arabia
Technological Analysis
Saudi Arabia has created favorable policies for investments in R&D. Corporate tax laws have
given boost to private investments in R&D in certain sectors.
Current Strengths
Strong financial position for technological development – Due to its consistent GDP growth
Saudi Arabia is in a strong position to increase investments in technological development.

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Current Challenges
Current low investments in R&D and technological education – As a percentage of GDP, the
spending in investments in pretty low (around 0.25% in 2006) as compared to many developed
countries like France (2%), Japan (3.18%) and US (2.68%). Also lack of investments in technical
education and centers for higher education, Saudi Arabian workforce is not fir for technology
intensive industries.
Future Prospects
Growing Focus on R&D and conducive FDI policies will help Saudi Arabia to improve upon
its technological environment. Some steps like opening up of economic cities, investments in
technological infrastructure, medical research and integrated medical services zones have already
been taken.
Future Risks
Saudi Arabia lacks in implementation of laws and policies and one of the risks could be poor
implementation of Intellectual Property Rights (IPR) leading to hampering of growth in the
innovation environment
Table: Technological Analysis of Saudi Arabia
Legal Analysis
Following WTO commitments, Saudi Arabian legal environmental is improving with reforms in
privatization and liberalization.
Current Strengths
Better Business environment – Saudi Arabia has been ranked highly (ranked 25th
in World
Bank’s Ease of doing business report) in terms of ease of doing business. Radical changes in

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minimum capital requirements and reduction of required procedures from 13 to 7 has made
Saudi Arabia a preferred investment destination.
Current Challenges
Underdeveloped judicial norms – One of the issues with the legal environment is that judicial
system is not well developed and still follows capital punishment norms unlike many developed
nations. The king is the head of the judicial system, thus making it an extension of political
authority and not an independent entity.
Future Prospects
Plans of reforms in the legal environment – Initiatives like establishment of two different
supreme courts – general court and administrative court, training of judges, infrastructure
development and others have been taken in this direction
Future Risks
Preference to Saudi Nationals and lack of transparency in investment laws could hamper
Saudi Arabia’s chances of attracting foreign investments in the future. Corporate taxes and laws
of foreign arbitration need to become more transparent.
Table: Legal Analysis of Saudi Arabia
Environmental Analysis
Saudi Arabia has been a late mover in implementing world standard environmental regulations.
It is only after signing international Convention on Biological Diversity(CBD).The country has
further restructured the prices of gasoline, diesel and cooking gas to control over-consumption
Current Strengths
Commitment to environmental regulations – Saudi Arabia has adopted many international and

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regional environmental conventions. Some of them include Basel convention, The Kuwait
Regional Agreement for Co-operation on Protection of Marine Environment from Pollution, The
Regional Agreement for Protection of the Red Sea and Gulf of Aden, The Protocol on Marine
Pollution Due to Exploration and Exploitation of the Continental Shelf in the Arabian Gulf
Sea Area and United Nations Framework Convention on Climate Change.
Current Challenges
Poor performance on environmental indexes – Due to air pollution and marine pollution near
the Saudi gulf caused to incidents like oil spillage or waste dumping Saudi Arabia’s rank in
environmental indexes is pretty low.
Future Prospects
Focus on Environment – Saudi Government has become more aware in terms of environmental
issues and has even approved the Kyoto Protocol in 2004. It has also imposed restrictions on
over consumption of oil and waste dumping.
Future Risks
Expected loss of revenue due to Kyoto Protocol – Due to Kyoto Protocol, the developed
countries would be cutting down on their energy consumptions. It is estimated that the country
could lose about $19 billion per year from 2010 and more after 2012 when the Kyoto protocol
norms become more rigorous.
Table: Environmental Analysis of Saudi Arabia
2.3. Energy Sector Structure in Saudi Arabia
Saudi Arabia produces more oil and natural gas than any other country in the world. The growth
in the economy is mainly dependent upon production and oil exploration that is mainly done

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through the Saudi Arabia oil company called Saudi Aramco (Federal Research Division, 2006).
Oil plays a major role in the Saudi Arabian Economy and according to a US Energy Information
Administration it forms 90-95% of Saudi Arabia’s export, 70-80% of country’s annual revenues
and about 40% of the country’s GDP (Federal Research Division, 2006). It is estimated that
Saudi Arabia has about 261.9 billion barrels of oil that could last for about 50 years (Federal
Research Division, 2006). Saudi Arabia is also a highly influential member of the Organization
of Petroleum Exporting Countries (OPEC). The boost in the oil production has been so
tremendous that the country’s oil rigs nearly doubled between 2004 and 2006. Apart from the oil,
country’s natural gas reserves are very high and form around 4% of the entire world production.
It is estimated that total natural gas reserves amount to 235 trillion cubic feet. In 2002, Saudi
Arabia created world’s largest natural gas plant based in Hawiya that would increase production
by around 30%. Saudi Arabia has a very well structured network for electricity across the
country and the electricity reach is about 97% (Reegle, 2007). However, one of the concerns
relating to the reserve margin is that it is only 3% in Saudi Arabia as compared to world average
of 10%. Due to this there is demand supply mismatch and hence the Saudi Electricity Company
(SEC) has to cut down the supply to some areas during peak times.
Saudi Arabia has opened up its economy after its accession to WTO. As a consequence, foreign
companies are allowed to open up a 100% owned enterprise. But, the sector of oil exploration,
drilling and production still remains protected.
2.4. Porter Five Forces Model for analysis of Energy Industry
In his five forces model Michael Porter (1979) argued that the nature and degree of competition
in an industry hinged on five forces: the threat of new entrants & barriers to entry, the bargaining
power of buyers, the bargaining power of suppliers, threat of substitute products and competitive

25
rivalry. The collective strength of these five forces determines the ultimate profit potential of an
industry. This model would be used to evaluate the energy industry and the impact of the various
players involved in its various sub sectors.
Figure: Porter’s Five Forces Model. Source (Quick MBA, 2010)
The table given below shows the importance of each parameter –

26
Porter’s Five Forces Impact & Importance
Threat of new entrants&
Barriers to entry
In ideal conditions, a free market should exist where in any firm and
enter or exit easily. But in reality, the industry is dominated by large
firms that inhibit rivals from entering the market and eat in to their
profits. Barriers to entry have been used as a tool to maintain the
market equilibrium. Some of the used methods are government
regulations, patents, copy rights, economies of scale etc.
Buyer Power Buyer power reflects the influence of customers and their power in
making a product / service successful or unsuccessful. Buyers are
normally powerful in those industries where product standardization
is high, substitutes are easily available, buyers are few big institutions
that dominate the market and buyers have the capability for backward
integration. Some of the examples of such industries are automotive ,
retailers and others
Buyer power is weak in those industries where there is a high
switching cost for changing suppliers, any supply component is
critical to the buyer’s end product, buyers are fragmented and where
forward integration is possibility. Some of the examples are – movie
industry, computer chip making industry etc.
Supplier Power In any industry supplier’s influence the end product through the
quality of raw materials and other supplies. Relationship with the
suppliers is a critical component of an organization’s strategy.
Suppliers are powerful in those industries where they are less in

27
number or manufacture critical components. While, the suppliers are
normally less powerful if the buyer has large scale operations, their
supplies are standardized and substitutes are easily available.
Threat of Substitutes In Porter’s Model this factor refers to the alternative products or
services from some other industry. As more substitutes are available
the demand of the product goes down. For e.g. demand for beverage
cans made of aluminum would go down if substitutes such as steel
cans, plastic cans or glass bottles are available at a lower price even
though they are not from the same industry.
Competitive Rivalry Intensity of rivalry is influenced by several factors that determine the
level of competition in a given market. In a market where there are
large numbers of firms the rivalry would be high to gain the market
share. Other factors are slow market growth, high fixed costs, low
switching costs, low levels of product differentiation, high exit
barriers, diversity of rivals etc.
Table: Porter’s five Forces: Impact & Importance. Source (Quick MBA, 2010)
The energy industry mainly consists of three types of companies – 1) Oil & gas exploration and
production, 2) Energy equipment suppliers 3) Service Providers (Energy Business Daily, 2010).
The application of five forces model on the energy industry gives the following results -
Threat of new entrants and barriers to entry– The major revenue generators of the energy
industry are the type 1 companies viz. Oil & gas exploration and production. Some of the biggest
names in this fragmented industry are Saudi Aramco, Exxon Mobil, Royal Dutch Shell, BP,
Chevron and others. These companies are vertically aligned and have strong hold in the industry

28
and hence lowering the threat of new entrants. Due to their globalized large scale operations it is
unlikely that any small company would be able to challenge their supremacy. Another factor
that influences the threat of new entrants is the presence of these companies in several parts of
the supply chain. They use vertical integration and large scale production to be more efficient
and cost effective. Moreover, their huge investments in research & development of sophisticated
techniques of oil exploration, rig equipments, technology and man power has made their position
as incumbents in this industry. Another deterrent is the huge initial investment that is required to
set up basic facilities. Regulatory environment with its strict laws is another concern for new
entrants as it is very difficult to get permission for oil & gas exploration in new fields. Norms
relating to taxation are complex and there are several other restrictions due to the environmental
concerns. Also given the current economic situation and fear of recession, these big giants are
better equipped to handle the crisis then other small companies. Thus, all these factors make the
threat of new entrants very difficult.
Competitive Rivalry – Energy industry is characterized by large scale operations, high fixed
costs and high exit barriers for the players in the industry. As the world energy demand is
increasing there is a need to find new sources of energy leading to increased rivalry among the
major players like Saudi Aramco, Royal Dutch Shell, Exxon Mobil etc. As most of the
companies have similar nature of operations there was a need of geographical and / or product
diversification. Saudi Aramco has successfully created a monopoly in the Saudi Arabian energy
sector. Exxon Mobil has taken the route of diversification and has ventured into refining and
marketing of oil and gas. They have further invested in electricity generation and production of
commodity petrochemicals to reduce their exposure on only one particular sector.

29
Bargaining power of buyers – As discussed before, the energy sector has several subsectors
and due to highly integrated nature of the large companies, they act as both buyers and players in
the different sectors. Due to their large size and capacities the oil companies have significant
power over their buyers. Also, the fact that oil, gas, coal and other commodities are in demand
and strategically important to its users weakens the bargaining power of buyers. On the other
hand some of the factors increase the bargaining power of buyers. Some of the institutional
organizations tend to buy oil and gas in huge quantities and hence they are able to secure good
discounts. Lack of brand loyalty and low product differentiation leads to increased bargaining
power for institutional organizations. Crude oil & natural gas prices are regulated through
mercantile exchanges throughout the world giving more options to buyers. The major buyers in
this sector are electricity generators that look for sources to produce electricity at a lower cost.
Such companies also have large size and huge financial muscle and command high bargaining
power. If the same quality of coal is available at a cheaper price and other conditions remaining
the same they would easily switch to a new supplier.
Bargaining power of suppliers - As far as the equipment suppliers and service providers are
concerned some of the major players are Halliburton, Schlumberger, Smith International, Baker
Hughes and others. They are mainly the suppliers to the type -1 companies. This sector of the
energy industry is characterized by highly specialized equipments, few suppliers and economies
of scale and hence giving a considerable bargaining power to the suppliers. The companies
mentioned are highly diversified and have huge product portfolios giving them a vantage point in
the buyer supplier relationship. Baker Hughes as an example caters to most of the big companies
of the oil and natural gas sector with its huge product portfolio. Apart from selling equipments it

Industry Report- Saudi Arabia Energy Industry

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