Saudi Aramco, the world's largest oil producer, is facing a tough financial decision in early 2024: whether to continue funding its massive $31 billion quarterly dividend or risk exacerbating Saudi Arabia's budget shortfall. Amid falling oil prices and increased production cuts from OPEC+, the oil giant has seen profits dip and debt levels rise, putting strain on its balance sheet.

In the third quarter of this year, Aramco posted a 15.4% drop in net income, reporting $27.56 billion in profits-down from $29.1 billion in the prior quarter-primarily due to weaker crude oil prices and refining margins. The average selling price of crude fell from $85 per barrel in the second quarter to $78.7 in the third, influenced by an increase in non-OPEC supply volumes and muted demand. This decline comes as Saudi Arabia, which leads the OPEC+ alliance, continues to support production cuts to stabilize global prices.

Aramco's $31 billion quarterly dividend includes a base payment of $20.3 billion, consuming almost all its free cash flow, plus an additional performance-linked payout of $10.8 billion, a component introduced following 2022's oil price spike driven by geopolitical tensions. Next year, this performance-linked payout will transition to a percentage of free cash flow, further straining resources as oil revenues waver. The Saudi government and the kingdom's sovereign wealth fund, the Public Investment Fund, hold a combined 97.5% of Aramco's shares, making them the primary recipients of these payouts.

"Aramco delivered robust net income and generated strong free cash flow during the third quarter, despite a lower oil price environment," Aramco CEO Amin Nasser said in a statement. Nasser emphasized the company's commitment to advancing its upstream and downstream developments and investment in alternative energy projects. The ongoing payouts are seen as essential to Crown Prince Mohammed bin Salman's ambitious Vision 2030, a multi-trillion-dollar national transformation plan featuring extensive infrastructure investments aimed at reducing Saudi Arabia's dependency on oil.

However, maintaining such high dividends comes at a cost. In a notable shift from a year ago, when it had $27 billion in net cash, Aramco's balance sheet has flipped to a net debt position, reporting $8.9 billion in net debt in the third quarter. Though its gearing-net debt to equity-of around 2% remains lower than other global oil majors such as BP and Shell, the company's increasing debt has become a focus for investors.

The company has several options to address its financial strain. One is to increase borrowing, a tactic it used during the COVID-19 pandemic to maintain dividend payouts amid low oil prices. In 2020, Aramco issued $8 billion in dollar bonds and an additional $6 billion in 2021. Chief Financial Officer Ziad Al-Murshed has defended this approach, citing low leverage as a viable reason to increase debt while sustaining dividends. "Leverage is still low and another tool used globally by large corporates so as not to cut dividends when cash flows fluctuate," said Anita Gupta, head of equity strategy at Dubai's Emirates NBD PJSC.

Some analysts believe borrowing may again be the chosen route, allowing Aramco to preserve its dividend commitment without a reduction. "There's room for Aramco to borrow more," said Kim Fustier, an HSBC Holdings analyst, pointing out that the company could maintain payouts near current levels if it takes on additional debt.

Aramco's financial struggles are not unique; other oil majors, including ExxonMobil and Shell, have also seen third-quarter profits slip due to the global drop in crude prices and lower refining margins. These financial challenges align with Saudi Arabia's revised growth outlook, which the Ministry of Finance recently adjusted down to 0.8% for 2024 from 4.4% previously. Saudi Arabia has also increased its projected budget deficit to approximately 2.9% of GDP, up from a prior forecast of 1.9%.