The Prince of Saudi's New Economy (interesting read)

Bismillah Arrahman AlRaheem: In the Name of Allah The Most Beneficient The Most Merciful
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A very interesting discussion on the current Saudi Economy, lengthy but definitely worthwhile for anyone who's interested in the region..

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The Prince of Saudi's New Economy
By Stephen Glain
06/14/06

Angered by repeated demands for a rent increase, Prince Mohammad al-Faisal
al-Saud decided last November to move his holding company out of its
prestigious headquarters in central Riyadh and into a cheaper and larger space
just outside the city center. It sounds straightforward enough, but this was no
routine corporate move.

Al-Faisal was quitting the Al Faisaliah Center, a striking 267-meter pyramidal
tower named after his Al Faisaliah Group, one of Saudi Arabia 's top 20
companies. The property is owned by the King Faisal Foundation, a social
welfare institute established in memory of al-Faisal's great-grandfather, who
ruled Saudi Arabia from 1964 to 1975. The prince suspected that the foundation
was seeking to exploit his royal connections to impose an above-market rent on
Al Faisaliah and extend those terms to other tenants. By removing himself from
such a high-profile royal asset, al-Faisal was choosing business principle over
family loyalty -- a radical notion in conservative, hierarchical Saudi Arabia .
"I'm pushing my staff to watch overhead costs, and people are taking advantage
of us," al-Faisal said in a recent interview in his old office on the tower's
16th floor, shortly before the group moved in April. "This is about principle.
Plus, I'm a little stingy."

Al-Faisal's move is more than an act of family rebellion. It's indicative of a
revolution that is liberalizing and diversifying the Saudi economy, weaning the
kingdom from its dependence on oil and fostering the growth of consumer sectors
that can meet the needs of a rapidly growing population. The economy expanded
by nearly 7 percent last year, according to figures from the International
Monetary Fund and private economists. Although the rise in world oil prices to
$70 a barrel played a big role, the kingdom's nonoil sector grew virtually as
fast as its energy industry, the IMF estimates.

Today's economic boom is the fruit of a deliberate process of deregulation that
enabled the kingdom to join the World Trade Organization last year. Although
the country remains a monarchy, economic reform is making the business culture
more egalitarian. The patrician merchant class, which once handed down
family-owned businesses from one generation to the next, is giving way to a new
class of entrepreneurs eager to tap the country's increasingly liquid capital
markets. Saudi companies have raised $6.8 billion with ten initial public
offerings in the past four years, using the funds to expand operations at home
and in the region. The World Bank last year ranked the kingdom as the
38th-easiest country to do business in, out of 155 countries around the world
-- up from 67th the previous year. The improvement has come thanks to laws that
make it easier to obtain a business license and reductions in tariffs on
imported capital goods. These changes should sustain a continued
expansion of 5 to 7 percent a year over the coming decade, economists say. "The
underlying economic fundamentals are sound," says Abdel Aziz Abu Hamad
al-Uwaisheg, director of media and investor awareness at the government's
Economic Integration Department. "By 2007, when regulators get their act
together and demand a little more transparency, the market will reflect the
real economy."

The economy does have vulnerabilities, of course. Today's oil bonanza could
prove as ephemeral as that of the 1970s, when soaring crude prices triggered a
global recession and a subsequent collapse in the oil market, leading to a
generation of economic stagnation. Even with today's buoyant economy, the
kingdom has a chronic problem with unemployment, which economists estimate may
be as high as 30 percent.

The recent boom and bust in the local stock market, the Tadawul All-Shares
Exchange, also could dampen growth. The market, which soared more than 1,400
percent between March 1999 and February 2006, lost half its value over the
following three months before staging a modest recovery late last month, wiping
out nearly $375 billion in market capitalization and fueling concern that banks
may be dangerously exposed to unmet margin calls. The losses have sparked anger
and despair among many Saudi stockholders, whose ranks swelled from just 50,000
five years ago to an estimated 8.5 million during the boom. The collapse
prompted King Abdullah to fire the head of the Capital Market Authority last
month and install Abdul Rahman al-Tuwaijeri, secretary general of the Supreme
Economic Council, to lead the regulator (see box).

Notwithstanding the risks, most bankers and business executives believe that the
new Saudi economy rests on a firm foundation. Local companies enjoy strong
earnings despite the market crash, and many investors see opportunity amid the
turbulence. Prince al-Waleed bin-Talal, Saudi Arabia 's richest man, said in
March that he planned to invest $2.7 billion in Saudi shares. (He has yet to do
so. "The general feeling is that he's probably waiting for cheaper prices," says
al-Uwaisheg.) Last month, al-Waleed gave a mandate to Citigroup, in which he
holds a 4.3 percent stake, to lead an initial public offering of shares in his
Kingdom Holding Co., which is expected to raise as much as $6 billion.

Abdulmuhsin al-Akkas, the country's Social Affairs minister, believes the
country has undergone a lasting change in business mentality. He recalls
hosting a conference in 1990, as a prominent businessman, with the aim of
persuading Saudis to develop their businesses into publicly listed companies.
"It was rejected completely," he says. "But today people want to go public.
This is a huge change, and it's here to stay." The Saudi market remains among
the region's most dynamic despite the stock market crash, says Hassan Heikal,
co-chairman and chief executive officer of Cairo-based EFG-Hermes Holding, one
of the Middle East's top investment banks. The firm won a license last month to
open an office in Riyadh , and Heikal says he hopes to be able to sell Saudi
shares to foreigners within a year. "Our largest developing market is in Saudi
Arabia ," he says. "There is a huge shake-up there."

Once dominated by Saudi Arabian Oil Co., or Saudi Aramco, the kingdom's iconic,
state-run oil giant, the economy is increasingly driven by companies like the
Savola Group, a food processor and edible-oil maker that posted a 139 percent
increase in profits last year, to 1.2 billion riyals ($320 million). Savola,
ranked among the top ten companies on the Saudi stock exchange, has over the
past two years opened mills in Syria and Algeria in addition to its operations
in Iran , Jordan , Kazakhstan , Morocco and Sudan . It plans to float up to 30
percent of its edible-oil unit within the next six months.

Another avatar of the new economy is Riyadh-based Jarir Marketing Co., a
retailer that began as a small office-supplies shop on Jarir Street in the
capital in 1979 and expanded to become the largest bookseller in the Gulf,
according to chairman and CEO Muhammad al-Agil. The executive had recently
returned to Saudi Arabia after obtaining a master's degree in engineering from
the University of California at Berkeley when he and four of his seven brothers
decided to open the store. "Most of the big contracts from the oil boom had
been let, so my brothers and I decided we had to do something else to make
money," says al-Agil, who wears a modest cream-colored thobe, the traditional
ankle-length gown worn by Saudi men, with a blue Bic pen protruding from the
breast pocket. The family dispatched one brother to work as an intern at an
office-supplies store in California , where he learned the ropes on purchasing,
finance and distribution. Buttressed by that knowledge, Jarir was
soon boasting gross profit margins of 30 to 40 percent. By the late 1990s the
family had added books to its stores, featuring English as well as Arabic
titles. In 2000 the company floated nearly a third of its shares at 178 riyals
each, then a year later offered an additional 10 percent at 310 riyals. Jarir
is opening new stores in Qatar , Abu Dhabi and Kuwait .

The Al Faisaliah Group epitomizes the new business mentality. For nearly a
decade in his capacity as president, al-Faisal has been working to transform
the group -- founded in the late 1960s by his grandfather, Prince Abdullah
al-Faisal al-Saud -- from a passive owner of a wide variety of assets into a
strategic investor and manager of companies focused increasingly on
fast-growing consumer and service sectors, including media, retailing and
telecommunications. "We're looking at mass retailing for a big, young Saudi
population that is looking for a home, furnishings to go in the home, garments
for their kids and fashion for themselves and new ways to communicate with the
world," he explains.

AL-FAISAL IS ALL BUSINESS AND GENERALLY SHUNS palace affairs. He is part of a
new generation of Saudi princes who are entering the private sector, once the
domain of civil servants in charge of state-owned companies and private,
small-scale merchants. "Things are changing now," says Jean-François Seznec,
an adjunct professor of Arab studies at Columbia University in New York . "The
divisions are becoming blurred in the sense that a growing number of royal
members are educated and more aggressive in getting involved in the economy."

Comparisons between al-Faisal and the high-profile Prince al-Waleed are
inevitable. Al-Waleed's Kingdom Centre and the Al Faisaliah Center -- the two
tallest buildings in the kingdom -- face each other across Riyadh like rival
pieces on a chess board. But al-Faisal is more workmanlike than the flamboyant
al-Waleed, and his $1 billion-in-revenues group is a fraction of al-Waleed's
empire, which is valued at some $20 billion.
Al-Faisal and his team "are respected for their low-key professionalism," says
Beshr Bakheet managing partner of Riyadh-based Bakheet Financial Advisors, who
lost his treasury director to Al Faisaliah seven years ago. "People don't work
with them because they feel they have to but because they want to. It's unusual
for a prince like al-Faisal to work at all."

That he does work is a product of the deep-seated changes introduced by his
great-grandfather King Faisal in the 1960s and '70s. "Most of the great reforms
that helped shape modern Saudi Arabia , such as labor laws, education for girls
and the introduction of television, took place under King Faisal's reign," says
Jamal Khashoggi, an adviser to Prince Turki al-Faisal, Saudi Arabia 's
cosmopolitan ambassador to the U.S. and one of Mohammad's uncles. "He and his
wife were the first monarchs to send their children abroad to study, and you
can see the results in them."

In addition to the ambassador, al-Faisal's extended family includes Prince Saud
al-Faisal, the Saudi foreign minister, and Khalid al-Faisal, the governor of
Asir province and owner of the relatively liberal Al-Watan newspaper.

The "powerpoint prince," as Mohammad al-Faisal is known because of his love of
computer presentations, grew up as an only child during the 1970s oil boom. At
the age of three, he made his first visit to Europe on a royal tour with his
maternal grandfather, King Khaled, and years later was part of the king's
entourage on a U.S. tour that included stops in New York City and Disneyland.
After his father died in 1983, al-Faisal and his mother moved into the palace
compound with the king's extended family. Then 15, the young prince was an avid
footballer who spent much of his time playing soccer in his bare feet.

Al-Faisal earned a bachelor's degree in industrial management from Dhahran's
King Fahd University of Petroleum & Minerals in 1990, then started a
seven-month internship at Citibank's Geneva headquarters. There he developed an
obsessive devotion to European soccer -- his favorite team was AC Milan -- as
well as a taste for finance.

"He is very disciplined and regimented," says Hamad al-Ammari, a friend and
fellow intern who roomed with al-Faisal in Geneva . "I never played squash so
well as I did playing against Mohammad in Geneva because he's so competitive."

After finishing his mandatory army service -- he interviewed Iraqi prisoners of
war as part of a joint U.S.-Saudi intelligence unit during the first Gulf War
-- al-Faisal applied for a job in the treasury department of Saudi American
Bank, or Samba. He posed a unique challenge to his interviewers: What to do
with a prince who wants an actual job? He was hired only after assuring
recruiters he would stay for at least three years.

As part of an exchange program, al-Faisal spent two years trading
over-the-counter energy derivatives at Citibank's New York headquarters (Samba
was a joint venture between the U.S. bank and Saudi investors at the time).
While there he enrolled at the Harvard Business School , and after graduating
with an MBA, he was offered an assistant general manager's position at Samba's
Geneva branch. That was when al-Faisal's uncle, who sits on the Al Faisaliah
Group board, asked the young prince to be his "eyes and ears" in the family
business. Al-Faisal was both flattered and disappointed by the request. "My
plan was for a career in banking," he says. "I knew nothing about the group and
was never remotely interested in it."

In patrimonial Saudi Arabia , however, appeals from family elders are
nonnegotiable. Al-Faisal signed on as vice president in May 1997 and was made
president a year after that. He inherited an odd buffet of properties that
included a Sony distributorship and the Al Safi Dairy, which had been founded
by his father, also named Prince Abdullah, in 1979. Today it is cited by the
Guinness Book of World Records as the world's largest integrated dairy farm,
with 32,000 cows on 29 square kilometers -- smack in the middle of the desert
an hour's drive from Riyadh .

Al-Faisal's first challenge was to persuade his uncles, who controlled the Al
Faisaliah board, to share control of the dairy with an outsider in exchange for
technology and expertise. The farm is not subsidized by the government, and its
costs are enormous: The dairy herd is fed from a nearby farm that produces
110,000 tons of hay and alfalfa each year, and it is irrigated from wells
nearly 2,000 meters below the desert's surface. "It was clear that we had taken
the business as far as we could on our own," he says. "We needed an alliance."
He obtained his uncles' consent after a series of consultations.

A friend then arranged a meeting in Riyadh between al-Faisal and executives from
France 's Groupe Danone, which was eyeing Saudi Arabia as a gateway to the Gulf
market. Negotiations continued for two years, with Al Faisaliah valuing Al Safi
at a high earnings multiple, as if it were a public company, and the French
viewing it as a private concern. After being assured that Al Faisaliah would
eventually float Al Safi, Danone agreed to pay E150 million (then $136 million)
for a 50 percent stake in 2000. Since that alliance was forged, the dairy has
introduced a raft of new products, including juices and yogurt, that are
distributed regionwide. The operation makes a profit of about $40 million a
year on sales of $400 million. Faisaliah is likely to sell its stake
eventually, says al-Faisal, but given that the farm is a family legacy,
divestment will probably take place at a typically deferential and cautious
Saudi pace.

The big change is taking place elsewhere in Al Faisaliah's portfolio. Since
launching an investment fund in late 2004, the group has bought equity stakes
worth some $450 million in everything from petrochemical plants to Internet
service providers in the region. Al-Faisal says his portfolio is up 50 percent
in value since its launch; it was up 127 percent at the end of 2005.

Among the group's key holdings is a 70 percent stake in Arabian Internet and
Communications Services Co., which operates AwalNet, the leading Saudi Internet
service provider. The company controls 40 percent of the market. Sales have
doubled since AwalNet was launched in 2002, to 100 million riyals a year.
Al-Faisal believes the business will expand rapidly as the country prepares to
deregulate Internet access fees by 2008 and roll out broadband access by 2010,
fueling big growth in numbers of users. AwalNet has received tentative offers
for an alliance from two global telecommunications companies since the
government began allowing foreigners to invest in the industry at the start of
this year (al-Faisal won't reveal their identities).

Al Faisaliah is also investing heavily in two other preoccupations of Saudi
youth: food and fashions. Last year the group purchased a chain of steak houses
as well as Z-Noodle, a chain that specializes in Asian cuisine. As is true of
all eateries in Saudi Arabia , families have a separate seating area from men
to comply with the conservative interpretation of Islam that prevails in the
kingdom. It is a measure of al-Faisal's subtle liberalism, however, that his
restaurant chains separate seating sections by a near-transparent curtain.

Al-Faisal says the group will invest about $200 million over the next five years
to develop a franchise of midlevel fashion boutiques with its own designer
label. The group is negotiating leases for space in the country's major
shopping centers and hopes to open its first shops by the end of the year.
Al-Faisal also wants to exploit an expected wave of home buying as the
country's youth -- more than half the country's 22 million people are under age
21 -- matures and new laws promote the development of a mortgage industry. The
group announced plans in January to open three IKEA-like home furnishing
outlets in Saudi Arabia next year as part of a joint venture and to expand its
outlets throughout the Levantine Middle East within five years. "Leverage is
picking up and will reach critical mass when these young people need to buy
homes," says al-Faisal. "There used to be a closed mentality here, but it's
opening up."

Al Faisaliah is by no means ignoring oil and related industries. In spring 2005
the group bought a small stake in Dana Gas, a natural-gas company based in the
United Arab Emirates , and realized a 300 percent return a few months later
when it sold after the company was listed in Dubai . In late 2004 it invested
50 million riyals in Saudi-based Al Kayan Petrochemicals Co., which plans to go
public on the Tadawul exchange sometime this year.

Like the monarchy, which rules more by consensus than decree, al-Faisal makes
most decisions after conferring with his network of managers and bankers.
Business development is discussed during lunchtime meetings over sandwiches and
bags of potato chips. Fahad al-Hussain, AwalNet's general manager, says he
reports to the board every month, provides an earnings review every quarter and
presents his budget annually. "They set the thresholds, and then we discuss
them," says al-Hussain. "Eventually we reach agreeable targets."

Will this Saudi economic spring last, or will the riches generated by today's
high oil prices be squandered, as previous oil windfalls were? The cautious
optimism expressed by many Saudis comes with a qualifier about the staying
power of King Abdullah. He is 82, and not all his potential successors are
reform-minded. "We are satisfied with the changes," says one business owner.
"But it could all end tomorrow."

To al-Faisal the trend is irreversible. He reels off some of the reforms that
were introduced as part of the drive for WTO membership: tariff reduction,
liberalization of the banking sector and new regulations for the insurance
industry. None of these things was even considered during the excesses of the
gilded 1970s. "People have learned their lesson," al-Faisal says. "We've
reached a tipping point. It's like a volcano. When it explodes you think it was
all of a sudden, but in fact it happens only after a great deal of time and
pressure."



Kingdom seeks to restore faith in a battered market

The oil money is still flowing, and national reserves are still rising, but
don't bother telling that to the man on the Saudi street. Investors have been
stunned by the crash of the local stock market, which has plunged nearly 45
percent since hitting an all-time high in February.

Blogs and Internet chat rooms, where much Saudi discontent is aired, are filled
with angry denunciations of the rampant speculation that caused the boom and
bust. The collapse has demolished the government's ambition of fostering equity
investment as a means of distributing wealth among less-well-off Saudis:
Abdulaziz Sager, chairman of the Dubai-based Gulf Research Center , calls the
crash "an economic and social disaster." The newspaper Asharq al-Awsat even
reports a rash of wedding cancellations by Saudis who can no longer afford
lavish celebrations. The regime intervened last month in a bid to stop the
rout. King Abdullah sacked the head of the Capital Markets Authority, Jammaz
al-Suhaimi, and named the head of the Supreme Economic Council, Abdul Rahman
al-Tuwaijeri, as the new chief regulator. He promised to privatize the Tadawul
All-Shares Exchange, Saudi Arabia 's stock market, and spend $7 billion to
develop a world-class financial district in Riyadh . And,
extraordinarily, he announced plans for a new risk-free fund -- on which the
state would absorb any losses -- in an effort to lure small investors back into
the market.

Most analysts and bankers are skeptical about the moves. Yasser el-Mallawany,
co-chairman of EFG-Hermes Holding, a Cairo-based investment bank, says the
change at the regulatory authority will have little impact. "The CMA is doing
all the right things," he says. "This switch was mainly symbolic." Asked
whether he thought the risk-free fund would bolster the market, Abdel Aziz Abu
Hamad al-Uwaisheg, director of media and investor awareness at the government's
Economic Integration Department, demurs: "Am I to oppose the king?"

Pressure on the government to sell down its stakes in listed companies to aid
the market's recovery is growing. Nearly two thirds of the market's
capitalization is controlled by the government, which owns big stakes in
everything from hydrocarbon giant Saudi Basic Industries Corp. to the country's
top banks. "The government has to relinquish a large share of what it controls,"
says Prince al-Waleed bin-Talal, the kingdom's richest man. "Sixty percent of
the market is in the government's hands, and another 20 percent is owned by big
investors, so only a fraction of the market actually trades."

Before the government can sell its assets, however, the regulator must draft
rules covering everything from the introduction of mutual funds to improved
corporate governance, says CMA director Abdulaziz Alzoom. "We are aiming to
list more companies, but we also want more surveillance capability, and we want
more trained staff," he says. "This is a huge task ahead of us."

Notwithstanding today's bearish sentiment, foreign banks and brokers remain as
eager as ever to enter the Saudi market, convinced of its long-term potential.
Roughly a dozen firms, including Credit Suisse Group and HSBC Holdings, have
applied for licenses to trade Saudi shares and plan to open offices in Riyadh
in partnership with local firms. Saudi Hollandi Bank, which is the country's
oldest bank and is 40 percent owned by ABN Amro, is forging ahead with plans to
list ten companies on the Tadawul. "This hiccup will not materially alter our
timetables," says Tom Lind, Saudi Hollandi's head of investment banking. "The
measures taken by the Capital Markets Authority show this is becoming a normal,
open stock market, albeit at a gradual pace, and we welcome that." -- S.G.

© 2006 Institutional Investor


-YSH ;)