Foreign Relations of the United States, 1952–1954, The Near and Middle East, Volume IX, Part 1

886A.2553/7–2853

No. 303
Memorandum of Conversation, by the Officer in Charge of Lebanon–Syria–Iraq Affairs (Funkhouser)

secret

Washington, July 28, 1953.

Subject:

• Aramco Negotiation Plans

Participants:

• Mr. James Terry Duce, Vice President, Aramco
• Mr. A. Chapman, Washington Representative, Aramco
• NEA—Mr. Jernegan
• NE—Mr. A.D. Fritzlan
• NE—Mr. Funkhouser

Mr. Jernegan stated that Mr. Beeley, Counselor of the British Embassy, had expressed his Government’s concern that Aramco in its oil negotiations with the Saudi Arabian Government might seriously disturb existing contractual relations in Iraq and Kuwait. Mr. Jernegan added that he had replied to Mr. Beeley that he would discuss this matter with representatives of Aramco. It was for this purpose that he had asked Mr. Duce to visit the Department.

The subsequent discussion with Mr. Duce brought out the following points:

1. Aramco will shortly present the Saudi Arabian Government with a new approach to both price and pipeline problems. The Iraq Petroleum Company and Kuwait Oil Company as well as all Middle East producing and pipeline transit countries will be substantially affected by the recent decisions of the Aramco Board of Directors.

2. Aramco is prepared to offer to share profits on the basis of posted or “world” prices, now $1.97 per barrel FOB Ras Tanura. This price represents an increase of $0.54/bbl. over the present value of Arabian crude. Aramco and SAG will thus each earn a $0.27/bbl. increase over the present $0.56/bbl. share of profits (approximately). This 50 percent increase in income will give SAG a total of approximately $220 million per year at the current production rate.

3. The impact on Kuwait Oil Company and particularly the Iraq Petroleum Company can be immediate and profound. It is apparent that demands for equal treatment will be made by the Iraq and Kuwait Governments. Iraq and Saudi Governments are now exchanging information on oil prices. Reports indicate that both are demanding “world prices” for their oil in place of the intercompany 20 percent discount price which has formed the basis for past and present profit-sharing in both countries. They also intend to get the support of the Sheikhs of Kuwait and Qatar on this issue. Furthermore, the IPC agreement with the Iraq Government recognizes that Iraq can reopen discussions if a neighboring country receives more favorable terms.

4. The Kuwait 50/50 agreement is based currently on actual contract sales price. It is believed that half the oil moves at a discount (current Aramco and IPC basis) and the other half at posted prices (new Aramco offer). Pressure from Kuwait for increased prices can be expected to follow developments in Saudi Arabia and Iraq. (Under these conditions Iraq and Kuwait annual oil revenues could reasonably be expected to move from approximately $120 million (in Iraq pounds) and $160 million (in Indian rupees) respectively to the neighborhood of $180 million and $200 million respectively at present production rates.)

5. The basis for this drastically revised position of the Aramco board was not discussed in detail. Mr. Duce, however, stated that “it was foolish to think that when the Venezuela 50/50 agreement was signed in 1945 it would not be taken over by Middle East countries.” The pending Aramco offer brings the Saudi Arabian agreement closer to the long-existing Venezuelan model. Venezuela shares profits with the companies on posted or world prices rather than on an intercompany discount price; Venezuelan prices reflect changes in the world market which Aramco prices did not. It was apparent that Aramco considered it in their best interest to give the Saudi Arabian Government the full value of their oil as reflected by world price conditions and as demanded by Saudi negotiators. This value has recently gone up in the Western Hemisphere and the new increase is also to be given to the SAG.

6. Aramco will keep 50 percent of this increased crude profit. The “parent” companies which purchase the entire output will lose this profit. The parents of Aramco will thus transfer a slice of profit from the refining and marketing branches to the producing branch. (Taxes paid the United States Government by the parents will thus be increasingly transferred to the SAG as in the original 50/50 agreement. It would appear that as in the case of the original 50/50 agreement, Aramco has found a means of increasing payments to the SAG at no extra cost to the company. A study of the United States and SAG tax details might even indicate that the company under certain circumstances would realize a net financial gain by their action.)

7. Since no price agreement was signed in 1950 when the Aramco-SAG 50/50 agreement went into effect, SAG negotiators have been demanding that any increased price be paid retroactively. The posted price since 1950 has been $1.75/bbl or $0.32 above the $1.43 company price. Retroactive payments, if forced from Aramco in the negotiations would thus result in an additional lump sum payment to SAG of over $100 million. (The difference between the $1.75 and the $1.97 price represents the recent increase in world oil prices.)

8. Plans to sever completely Tapline pipeline operations from the Arabian-American Oil Company will be finalized and presented to SAG. An “independent” pipeline company will probably be established; the “tariff” principle used in the United States will probably be applied to the Middle East operations; pipeline profits, which will be declared and will reflect tanker competition, will probably be shared 50/50 with the transit states. (Mr. Duce spoke of a $0.40/bbl charge or tariff for transporting oil from the Persian Gulf to the Mediterranean. Given costs of approximately $0.25 a barrel Lebanon, Jordan, Syria and Saudi Arabia would thus share approximately $8 million per year; Lebanon, Syria, Jordan now share approximately $3 million per year from Tapline.)

9. Mr. Duce emphasized that secrecy was essential until such time as the company negotiators presented these new offers to the SAG. He specifically asked that the information “not leave the country”. However, it was apparent that IPC could realistically be expected to learn of these developments from parent companies which IPC held in common with Aramco. The United Kingdom Foreign Office would consequently soon be informed. Mr. Jernegan mentioned that it was on a basis of such IPC representations to the Foreign Office that Mr. Beeley had expressed his concern to the Department. Mr. Duce stated that Mr. Davies, Chairman of the Aramco Board, was now in London and would discuss the general problem with Mr. Gibson, IPC Managing Director.¹

10. Mr. Jernegan stated that in response to the company’s request for absolute secrecy he would inform Mr. Beeley that (a) the Department wished to follow its general policy of resisting involvement or advice to industry upon matters primarily commercial in nature such as oil price negotiations between Aramco and the SAG but (b) the Department had expressed HMG and IPC concern to Mr. Duce who promised to convey it to top officials of the company. Mr. Duce later informed the Department of his intention to contact Mr. Beeley directly and undertake a general discussion of the Aramco position. The Department representatives encouraged this approach.

Other points discussed included the following:

(a) A strong reaction from the British Government and/or British companies could be anticipated in view of the British tendency to go further in resisting increased payments to producing states in the Middle East and the added financial complications which would affect the sterling area. This drastic Aramco action also comes at a time when HMG has been pressing most strongly for coordinated United States-United Kingdom policy on Middle East oil.

(b) The timing of the Aramco approach would be as follows: Mr. Davies was expected in Saudi Arabia this week. He would immediately make known to Saudi authorities that he was prepared to resume negotiations. Negotiations would probably start after the Haj or approximately the first week of September. Details of the new pipeline approach would be worked out in the area in September by Messrs. H. Britten and J. Noble of Tapline.

(c) The new Aramco price offer would not break or alter existing agreements in Arabia. No agreement on price was ever reached between Aramco and Saudi Arabia authorities when the 50/50 profit-sharing agreement was signed. Aramco arbitrarily picked a $1.43 as the price basis for profit-sharing. The IPC agreement was patterned after this 20 percent discount off world prices. However, the Iraq Government in the Iraq–IPC negotiations formally agreed to this price.

(d) It was apparent since 1950 that Aramco was vulnerable on this price issue. By failing to reach agreement on price in 1950 Aramco was similarily vulnerable to demands for retroactive payments. The same would not seem to apply to the IPC case in view of the IPC–Iraq agreement, although in practice such demands for retroactive payments may be difficult to resist if paid to Saudi Arabia. There are, furthermore, ample precedents for retroactive payments in the area; the original Iraq and Saudi Arabia 50/50 agreements were retroactive one year and a year and a half respectively (to January 1950 in Saudi Arabia and January 1951 in Iraq). As mentioned above the precedents for establishing prices on a posted or world price basis already existed in the Western Hemisphere and Kuwait.

(e) According to the Department’s information the original Saudi price demand was (a) to raise the crude price from a $1.43 to a $1.49 and (b) pay this retroactively to January 1951. This new price of $1.49 was based on advice given the SAG by an American firm headed by Mr. McNaughton. Aramco originally considered this demand exorbitant, refused and was subsequently subjected to demands for an oil price of (a) $1.91 for the future, (b) a price of a $1.75 retroactive to January 1950, and (c) a certain increase in price to reflect the increased value of oil as it moves toward the Mediterranean through the pipeline. The present Aramco offer would appear to go further than Saudi Arabian Government demands, except that the company hopes to avoid the retroactive payments.

(f) Mr. Duce stated that there was currently a surplus of oil in the industry and that certain of the companies were not in favor of the recent price rise. With regard to Arab acceptance of any downward price movement in oil, Mr. Duce stated that on a basis of his company’s study of oil demand over the next 25 years (Paley Commission Report) the company was confident that it could maintain expanding and healthy operations.

(g) There was considerable discussion of the SAG’s ability to spend these additional revenues. Mr. Duce stated that the company had no illusions in this respect nor did he feel it was their “business”. He referred briefly to precedents in “Texas” regarding lavish expenditures. Reference was also made to precedents in Venezuela where annual oil income is now five time greater than Saudi Arabia’s while area and population are considerably smaller.

(h) Regarding the possibility that the increased Persian Gulf price might bring Iranian oil into the market, Mr. Duce did not express concern but stated that he “always had held the position that a solution to the Iranian oil question was essential to the health of the industry.”

(i) Mr. Duce stated that the intercompany oil price had been originally placed at the discount level ($1.43) primarily in order to provide the parents with the investment capital needed to develop the postwar refining and distribution end of business abroad. Now that this expansion in world-wide refinery and distribution capacity had taken place there was less need for the extra profit to be directed at that part of the business.

(j) When questioned regarding articles published in the area to the effect that cheap tanker rates were making the pipelines unprofitable, Mr. Duce stated “that must have been a planted article” and added “by someone other than us”. He intended to diminish the proposition that the Middle East pipelines would lose business to tankers except under certain conditions principally involving currency and nonconcessionary companies.

1. Later that afternoon Jernegan met with Beeley. He told him the President of Aramco was in London and was expected to talk to the Managing Director of the IPC, who would probably pass the information on to the British Foreign Office. (Memorandum of conversation, July 28, 1953; 886A.2553/7–2853)