BG Group’s been ‘Shell-ed’

In case you have been away from this ‘crude' planet and haven’t heard, oil major Royal Dutch Shell has successfully bid for its smaller FTSE 100 rival BG Group in a cash and shares deal valuing the latter at around £47 billion (US$70 billion).

While it’s early days into the current calendar year, the deal, subject to approval by shareholders, could be one of the biggest of 2015 producing a company with a combined value of over £200 billion.

For the Anglo-Dutch oil major, BG Group's acquisition would also add 25% to its proven oil and gas reserves and 20% to production capacity, along with improved access to Australian and Brazilian prospects. BG Group shareholders will own around 19% of the combined group following the deal.

BG Group's new chief executive Helge Lund, who only took up the post last month, will remain with the company while the deal is being worked on. However, he is expected to leave once it is completed walking away with what many in the City reckon to be a £25 million golden goodbye. The Oilholic thinks that’s not too bad a deal for what would come to little over three months of service.

BG Group shareholders, who’ve had to contend with a lacklustre share price for the last 12 months given the company’s poor performance, can also expect a decent windfall should they choose to sell. The bid values BG at around 1,350p per share; a near 50% premium to its closing price of 910.4p on Tuesday. If they decide to hold on to their shares, they’d be likely to receive an improved "Shell of a dividend" from a company that has never failed to pay one since 1945.

Shell chief executive Ben van Beurden said, "Bold, strategic moves shape our industry. BG and Shell are a great fit. This transaction fits with our strategy and our read on the industry landscape around us."

The market gave the news a firm thumbs up. Investec analyst Neill Morton said BG’s long-suffering shareholders have finally received a compelling, NAV-based offer while Shell’s bid was arguably “20 years” in the making.

“We agree that BG’s asset base is better suited to a larger company, but the economics require something approaching Shell’s $90/bl assumption. Consequently, we do not expect a rival bid and are wary of this catalysing a flurry of copycat deals. But we are also mindful that investment bankers can be very persuasive! We suspect Shell aims to re-balance dividends versus buybacks over the long-term. This could imply lower dividend growth,” he added.

As for the ratings agencies, given that the deal completion is scheduled for H1 2016, and quite possibly earlier given limited regulatory hurdles, Fitch Ratings placed Shell's ratings on Rating Watch Negative (RWN) and BG Group's ratings on Rating Watch Positive (RWP).

The agency aims to resolve the Rating Watches on both companies pending the successful completion of the potential transaction and “once there is greater clarity with regard to Shell's post-acquisition strategy and potential synergy effects.” We’re all waiting to hear that, although of course, as Fitch notes – Shell's leverage will increase.

“Our current forecasts suggest that the company's funds from operations (FFO) adjusted net leverage will increase from 1.5x at end-2014 to around 2x in 2015-2017 based on conservative assumptions around the announced $30 billion divestment programme and execution of the announced share buybacks from 2017.”

Moody’s has also affirmed its Aa1 rating for Shell, but quite like its peers changed the company’s outlook to negative in the interim period pending the completion of the takeover. Meanwhile, some City commentators have speculated that Shell's move might trigger a wave of M&A activity in the oil and gas sector.

However, the Oilholic remains sceptical about such a rise in M&A. In fact, one is rather relieved that the Shell and BG Group saga would cool nonsensical chatter about a possible BP and Shell merger (oh well...there's always ExxonMobil).

They’d be the odd buyout or two of smaller AiM-quoted independents, but bulk of the activity is likely to remain limited to asset and acreage purchases. Of course, consolidation within the sector remains a possibility, but we are too early into a cyclical downturn in the oil market for there to be aggressive overtures or panic buying. However, 2016 could be a different matter if, as expected, the oil price stays low.

Moving away from the Shell and BG show, here is one’s take via a Forbes column on how oil markets should price in the Iran factor, following the conclusion of pre-Easter nuclear talks between the Iranians and five permanent members of UN Security Council plus Germany.

Additionally, here’s another one of the Oilholic’s Forbes posts on why a decline in US shale activity is not clear cut. As it transpires, many shale producers are just as adept at coping with a lower oil price as any in the conventional industry. That’s all for the moment folks! Keep reading, keep it ‘crude’!

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© Gaurav Sharma 2015. Photo: Vintage Shell petrol pump, San Francisco, USA © Gaurav Sharma

That 1980s feeling, Saudi Oil, Ebola & more

Brent dipped below US$84 per barrel at one point this week while the WTI is holding above the $80 level. It’ll be interesting to note how the December futures contract fares as the Northern Hemisphere winter approaches with bearish headwinds lurking in the background. From here on, much will depend on what happens at the next OPEC meeting on November 27, where a production cut has the potential to partially stem the decline.

By the time of the meeting in Vienna, we’d already be well into the ICE Brent January contract. The mere possibility of a production cut isn’t enough to reverse the slide at the moment given wider market conditions. But as ever, OPEC members are presenting a disunited front diluting any market sentiments aimed at pricing in a potential cut.

The answer lies in an interesting graphic published by The Economist (click here) indicating price levels major producers would be comfortable with. There are no surprises in noting that Iran, Venezuela and Russia are probably the most worried of all exporters. While several OPEC members prefer at least a $100 price floor, in recent weeks Saudi Arabia has quite openly indicated it can tolerate the price falling below $90.

The Saudis also lowered their asking price in a bid to maintain market share. That’s bad news for most of OPEC, excluding Kuwait and UAE. In turn, Iran responded by lowering its asking price as well even though it can't afford to. So the debate has already started, whether in not wanting to repeat the mistakes of the 1980s which left it with a weakened market share; Saudi Arabia might in fact trigger OPEC discord and a slump akin to 1986.

While the Oilholic doubts it, certain OPEC members wouldn’t be the only ones hurt by the Saudi stance which abets existing bearish trends. US shale and Canadian oil sands exploration and production (E&P) enthusiasts will be troubled too. While the oil price is tumbling, the price of extracting the crude stuff isn’t.

Fitch Ratings says Brent could dip to $80 before triggering a self-correcting supply response with shale oil drillers cutting investment in new wells. Anecdotal evidence sent forth by the Oilholic’s contacts in Calgary point to similar sentiments being expressed in relation to the oil sands. 

The steep rate at which production from shale wells declines mean companies have to keep drilling new wells to maintain production. Fitch estimates median full-cycle costs for E&P companies have fallen to about $70 in the US. The marginal barrel, not the median one, balances supply and demand and determines price, so the point at which capex falls will probably be higher.

Over the short-term, Fitch considers a resurgence of supply disruptions and positive action from OPEC as the most likely catalysts for a rebound in prices. “But without these, further declines might be possible, especially if evidence grows of further weakening of global demand or increasing OPEC spare capacity,” the agency adds.

Longer term, an uptick in economic activity in China and India will contribute to a growth in oil demand. However, what we’re dealing with is short-term weakness. IEA demand growth for 2015 has been revised by 300,000 barrels per day (bpd) and 2014’s estimate by 200,00 bpd. The Oilholic suspects Saudi Arabia, Kuwait and UAE are only too aware of this and capable enough to withstand it.

Dorian Lucas, analyst at Inenco, says, “We’re seeing the largest in over two years spurred by accumulating evidence of waning global demand, whilst buoyant supply continues to drown the market. The extent to which supply has buoyed is evident when assessing September 2014 in isolation. Global oil supply rose over 900,000 bpd to total of 93.8 million bpd, this is over 2.5 million bpd higher than the same time last year.”

What happens at OPEC’s next meeting would depend on the Saudis. The Oilholic still rates the chances of a production cut at 40%. One feels that having the capacity to withstand a short-term price shock, Saudi Arabia wouldn’t mind other producers squirming in the interest of self-preservation.

Meanwhile, the industry is also grappling with the unfolding Ebola outbreak which has claimed thousands of lives in West Africa. Unsurprising anecdotal evidence is emerging of companies having difficulty in finding engineering experts, roughnecks or support staff willing to work at West African prospection sites.

In order to get a base case idea, browse job openings at a recruitment site (for example – Rigzone) and you’ll find pay rates for working in West Africa climb above sub-zero winter working rates on offer at Fort McMurray, Alberta, Canada. Three recruitment consultants known to this blogger have expressed similar sentiments.

While most of the drilling is offshore, workers' compounds are onshore in Guinea, Sierra Leone and Liberia. Additionally, local workers return to their homes mingling with the general population at risk of getting infected. The fear is putting off workers, and many companies have internal moratoriums on travel to the region.

Forget workers, even investors are having second thoughts for the moment. Both Reuters and USA Today have reported caginess at ExxonMobil about the commencement of offshore drilling in Liberia at the present moment in time.The company already restricts non essential travel by its employees to the region. Shell and Chevron have similar safeguards in an industry heavily reliant on expat workers.

GlobalData says of the affected African countries only Nigeria is equipped to handle the Ebola outbreak.  GDP of the said countries is likely to take a hit from loss of lives and revenue. International SOS, a Control Risks Group affiliate company which provides integrated medical, clinical, and security services to organisations with international operations, has been constantly updating advice for corporate travel to Guinea, Liberia or Sierra Leone, the current one being to avoidance all non-essential travel to the region.

Fitch Ratings says at present, the Ebola outbreak does not have any credit ratings implications for E&P companies in the region. Alex Griffiths, Head of EMEA, Natural Resources and Commodities, notes: “Our key consideration is how well the companies manage the Ebola risk. From a risk rating standpoint, we’re in early days. Fitch will continue to monitor the situation over the coming months.”

Away from Ebola, here’s the Oilholic’s take via a Forbes post on the future of integrated IOCs. Lastly, news has emerged that Statoil CEO Helge Lund has been appointed CEO of the much beleaguered BG Group with effect from March 2015. The soon to be boss said he was looking forward to working with BG’s people “to develop the company’s full potential.”

The announcement was roundly cheered in the City given the high regard Lund is held in by the wider oil and gas industry. To quote Investec analyst Neill Morton, “BG still faces challenges, but we believe it has a better chance of addressing them with Lund on board.”

We shall see whether Statoil’s loss is indeed BG Group’s gain. That’s all for the moment folks! Keep reading, keep it ‘crude’!

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To email: gaurav.sharma@oilholicssynonymous.com

© Gaurav Sharma 2014. Photo: Vintage Shell Fuel Pump, San Francisco, USA © Gaurav Sharma.