CAUTIOUS GREEN LIGHT FOR CONOCOPHILLIPS REFINERY

C O N F I D E N T I A L SECTION 01 OF 03 RIYADH 000893

SIPDIS

NEA FOR DAS GGRAY
DEPT OF ENERGY PASS DAS AHEGBURG, MWILLIAMSON, GPERSON, AND
JHART
CIA PASS TO TCOYNE

E.O. 12958: DECL: 06/08/2018
TAGS: EPET ENERG SA
SUBJECT: CAUTIOUS GREEN LIGHT FOR CONOCOPHILLIPS REFINERY

REF: A. RIYADH 868

B. RIYADH 867

Classified By: CDA Michael Gfoeller for
reasons 1.4 (b) (c) and (d).

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Summary
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1. (C) In a May 27 meeting with ConocoPhillips (COP) Abu
Dhabi-based Regional President Nick Spencer (strictly
protect) confidentially confirmed the planned 400,000 barrel
per day (bpd) joint-venture Saudi Aramco/COP refinery is
likely to move forward. While emphasizing that COP had not
made a formal final investment decision (FID),he summarized,
"in effect, it's approved." Press stories confirming a FID
are not accurate. COP has found financial workarounds to
compensate for the government's decision to date not to
allocate natural gas to the project. COP continues to hope a
gas allocation will be forthcoming, which would make the
project substantially more financially attractive.

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COP's Yanbu Refinery: The FID that Almost Is
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2. (C) After recent press announcements that Total's
400,000 bpd joint venture (JV) refinery with Saudi Aramco at
Juabail would move forward, Spencer confirmed that COP has
been under significant pressure to make an announcement
regarding its refinery at Yanbu. COP was clearly feeling the
pressure to "keep up with the Jones," and make a similar
announcement regarding its refinery. Unfortunately, COP's
front end engineering design (FEED) is not yet complete, and
so its internal procedures do not allow it to make a formal
FID. In the absence of a clear FID, on 16 May, COP and Saudi
Aramco announced they had "approved continued funding for the
Yanbu Export Refinery."


3. (C) The public announcement appeared to satisfy the
press, many of whom jumped on the bandwagon to promptly (and
inaccurately) announce that COP and Saudi Aramco had reached
FID. In particular, the Middle East Economic Digest (MEED)
led with the story, the most recent in a string of inaccurate
reports regarding the Yanbu refinery. COP's press release
was accurate and precisely worded; it did not mention
anything about FID. However, Spencer admitted COP did not
wade in to correct journalists who read more into the press
release than was there. COP has been under pressure to
correct factually inaccurate reports from April and May MEED
issues detailing the delay or outright cancellation of the
Yanbu refinery. In reality, Spencer anticipates all bids for
the engineering work will be received by January 2009, and
FID will be made in Q1 2009.

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Gas Allocation Not Secured,
but "Overcome"
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4. (C) Gas allocation has been a major sticking point for
the project. Spencer indicated the project still had not
obtained a gas allocation, the key to generating more
attractive returns on investment for COP. However, he
believed the gas issue largely has been surmounted through
other financial workarounds. Spencer cautioned that if COP
agrees to the project without the allocation, he doubted they
could obtain one in the future. He questioned why, in a
period of intense competition for gas, MinPet would allocate
gas for a project which they believed was likely to move
forward regardless. Nonetheless, Spencer believes the Saudis
will not let COP walk away from the project if gas remains
the sole sticking point. He noted that on top of Total's
recent withdrawal from the South Rub' Al Khali (SRAK) gas

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exploration consortium (ref B),any withdrawal by COP based
on gas allocation issues would be very damaging to the
Saudis' international credibility.

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Financial "Safety Net"
In Place of Gas Allocation
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5. (C) While we do not know the exact terms of the
agreement between COP and Saudi Aramco to move the Yanbu
refinery forward, it appears Saudi Aramco has put in place a
financial "safety net" to ensure COP will not walk away from
Saudi Arabia with single-digit returns. COP told us earlier
this year it was fighting to keep the double-digit returns it
needed to stay in the project. With no gas allocation, and
skyrocketing construction costs in the energy industry,
returns for the project were hovering in the 6-7 percent
range. COP's board would not countenance moving ahead with
Yanbu with returns in this range, instead looking for a
minimum of a 13 to 15 percent return. At the time, COP
viewed a gas allocation, in effect a subsidized feedstock
arrangement, as the only means making the project
sufficiently profitable. COP appears to have turned a corner
and is now willing to move ahead with this project, despite
the lack of a gas allocation. In the interim, Saudi Aramco
has introduced an additional financial sweetener, although we
do not know its precise nature.

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CEO Visit Helps to Clinch Deal
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6. (C) As part of COP's drive to demonstrate continued
commitment to the project, in February 2008, COP CEO Jim
Mulva visited Riyadh to meet with Minister of Petroleum Naimi
and senior Saudi Aramco officials. The meetings appear to
have gone some way to showing the firm's seriousness of
purpose. Spencer and other senior COP officials have engaged
in sustained shuttle diplomacy over the last year to keep up
the project's momentum. Spencer anticipates COP will open an
office in Riyadh within a month or two, as well as a project
office in Al-Khobar. They hope to open an office in Yanbu
within a year to oversee construction of the plant.

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Aramco Stretched
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7. (C) Spencer also has commented on the state of affairs
at Saudi Aramco, telling us that Saudi Aramco project
personnel seconded into the Yanbu refinery project to date
are far less experienced than they might have anticipated.
COP has had to compensate by placing very senior personnel on
the Yanbu project. He assesses that the Saudi Aramco joint
venture project office is over-committed. Contacts from
Saudi investment bank Jadwa Investments concur (ref A).
Jadwa recently purchased ExxonMobil's stake in Luberef, a
lubricating oil firm. As the only Saudi firm to operate a JV
with Saudi Aramco, Jadwa has a front row seat to better
understand Aramco's competencies. Brad Bourland, Jadwa's
Economist and Proprietary Investment Manager, independently
also has told us that the JV development department at Saudi
Aramco is "very stretched."

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Comment
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8. (C) In clinching the financial deal needed to move the
Yanbu refinery forward, COP is reaping the rewards of its
disciplined behavior in the early 2000's non-associated gas
("core ventures") negotiations (ref B). Both Conoco and
Phillips Petroleum, then separate firms, took part in these
contentious negotiations. Along with the other U.S. majors

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Chevron and ExxonMobil, they walked away from the Saudi offer
of low guaranteed returns. Even today, executives from these
firms have no regret with their decisions. When these
discussions failed, Saudi Aramco and the Ministry of
Petroleum turned to Shell, as well as Chinese, Russian, and
Spanish firms (ref B). After several years of exploration,
even the flagship Shell-led SRAK consortium has come up with
a series of dry wells. Industry watchers say that MinPet
and Saudi Aramco remain very dissatisfied with the level of
technology the Chinese and Russian firms in particular have
been able to share. Saudi Aramco and MinPet may finally have
determined that if they want access to the latest technology
- in whatever segment of the petroleum sector - they will
have to pay for it. COP and other American firms proved to
Saudi Aramco several years ago they will walk away from
commercially unattractive projects. ConocoPhillips, five
years later and now a merged firm, may finally have its time
in the Saudi sun.

GFOELLER