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LONDON (Alliance News) - FTSE 100-listed oil and gas companies Royal Dutch Shell PLC and BG Group PLC on Wednesday said they have reached an agreement on a cash and shares takeover of BG by Shell, valuing BG at around GBP47 billion, which marks the biggest UK to UK acquisition ever, prompting a rally across the sector amid speculation it will spark a wave of oil and gas industry consolidation.
Under the terms of the deal, BG shareholders will get 383 pence in cash plus 0.4454 Shell B shares per BG share. Based on the 90 trading day volume weighted average price of 2,170.3 pence per Shell 'B' Share on April 7, the total value of the deal is 1,350.00 pence per BG share.
BG shares closed at 910.4 pence on Tuesday. BG said the price represents a premium of around 50% to its closing price on Tuesday. BG shareholders will own around 19% of the combined company.
The news of the deal sent BG shares surging higher, up 32% to 1,203.5 pence to be comfortably the best performer on the FTSE 100 throughout the day on Wednesday. Royal Dutch Shell 'A' shares were down 3.4% to 2,022.00 pence while its 'B' shares were down 7% to 2,054.00 pence, the two worst performers in the FTSE 100.
The deal is the biggest UK-to-UK merger in history, breaking a record previously held by the GBP44.4 billion all-share merger of Glaxo Wellcome and SmithKline Beecham in 2000 to form GlaxoSmithKline PLC. It is also the biggest deal in the oil and gas sector since the turn of the century, when a fall in the oil price created an environment similar to the one providing today's backdrop. That resulted in a couple of major deals, including Exxon and Mobil's merger to create ExxonMobil Corp, Chevron Corp's acquisition of Texaco and BP PLC's acquisitions of Amoco and Arco.
"We have been looking at BG for quite a few years. It's a company we admire for the strength of its portfolio and integrated gas, liquefied natural gas and deepwater," said Shell Chief Executive Ben van Beurden in an interview with CNBC. "So it makes sense to bring the two companies together and really accelerate the financial growth strategy of Shell, and at the same time de-risk the development of BG."
In the medium term, Shell said that the combination of BG and Shell, by 2020, will have two strategic growth businesses in the form of deepwater and integrated gas which could generate between USD15 to USD20 billion of cash flow per year alongside upstream and downstream businesses that could also generate a combined USD15 to USD20 billion in cash flow.
Overall, Shell is expecting the merger to be "mildly accretive" to its earnings per share in 2017, and "strongly accretive" in 2018 onwards, but said it will start to fell the benefits of improved cash flow from 2016. The deal is expected to be completed in 2016.
Shell is also expecting to offload USD30 billion worth of assets from 2016 to 2018, it added. However, it is not clear which assets are being reviewed nor which ones will be sold following the combination of the two businesses.
Shell said it expects the merger to improve its global liquefied natural gas operations, particularly in Australia, and its deepwater operations, primarily in Brazil, and has forecast that it will generate pre-tax synergies of around USD2.5 billion per year along with further "significant" opportunities.
Van Beurden said the deal is about oil and gas, but admitted the deal was more about gas.
According to the BBC, both BG and Shell said the global synergies expected to materialise following the deal has allowed them both to avoid making further job cuts, with both admitting further cuts looked likely without the deal.
"This transaction will be a springboard for a faster rate of portfolio change, particularly in exploration and other long term plays. We will be concentrating on fewer themes, and at a larger scale, to drive profitability and balance risk, and unlock more value from the combined portfolios," said van Beurden.
Brazil is considered a potential stumbling block for Shell in the deal due to the ongoing scandal surrounding state-owned oil company Petrobras, but van Beurden said the geology in the country represents a "world-class upstream province" that will be there "for decades to come", and said Brazil will be a large part of the combined portfolio going forward.
"By and large, if you want to be a profitable, top leading company in deepwater, then you have to have more exposure to Brazil, so therefore this deal extends from that aspect as well," said van Beurden. Van Beurden said by the end of the decade, the combined company will be producing around 500,000 barrels of oil per day from Brazil alone, which will represent around 20% of its total production.
Currently, BG Group operates in 24 countries over five continents which underpins the company's competitive advantage in the LNG market and exploration sector, producing around 600,000 barrels of oil equivalent per day. Shell operates in over 70 countries, producing around 3.1 million barrels of oil equivalent per day.
For the 2014 financial year, Shell reported current-cost-of-supply earnings of USD19.04 billion, up from USD16.74 billion in 2013 as cost initiatives offset a fall in revenue due to the fall in oil prices whilst BG Group swung to a pretax loss of USD2.33 billion from a USD3.88 billion profit in 2013 on the back of significant impairment charges totalling USD9.0 billion, also related to the fall in oil prices.
BG Group also reduced capital expenditure by USD7.0 billion in 2015 whilst Shell said it would curtail USD15.0 billion of spending between 2015 and 2018.
"This is an important transaction for Shell, accelerating the delivery of our strategy for shareholders. The result will be a more competitive, stronger company for both sets of shareholders in today's volatile oil price world," said Jorma Ollila, Shell's chairman.
Although oil prices have fallen to around USD58 a barrel from USD115 a barrel in June, 2014, Shell said the deal makes logical sense in any environment, but did admit the oil price made the deal more compelling. However, van Beurden said the deal was "not a bet on the oil price" and said the deal "works in a whole range of oil and gas prices".
"The offer from Shell delivers attractive returns to shareholders and has strong strategic logic. BG's deep water positions and strengths in exploration, liquefaction and LNG shipping and marketing will combine well with Shell's scale, development expertise and financial strength," said BG Group Chief Executive Helge Lund.
Lund joined BG as CEO in February from Norwegian oil company Statoil SA, where he also worked with Shell on numerous ventures. Lund is set to stay on in the near term, though no clarity was provided on his long-term future with the combined organisation. Van Beurden said it will be up to Lund on what role, if any, he will have after the merger has been completed. He indicated in the CNBC interview that following the completion of the deal, Lund's future will be "up to him", indicating he may leave once the deal is done.
"The consolidated business will be strongly placed to develop the growth projects in BG's portfolio. The transaction will take time to complete, during which my team and I will remain committed to BG and our shareholders, and to safely delivering our 2015 business plan," Lund added.
"The BG board remains confident in BG's long-term prospects under the leadership of Helge Lund. Shell's offer, however, allows us to accelerate and de-risk the delivery of this value. The structure of the offer will provide BG shareholders with an attractive premium and a substantial cash return as well as enabling them, if they wish, to participate in the benefits of the combination through the share component. For these reasons, the BG Board recommends the offer," said BG Chairman Andrew Gould.
BG Group said its shareholders will benefit from the dividends paid to Shell shareholders in the near term. Shell said it plans to pay dividends of USD1.88 per share in 2015, adding that USD1.88 per share will also be the minimum payment in 2016. That compares with a dividend of USD0.14 that BG Group shareholders can expect in the 2015 financial year.
In addition, Shell also plans to begin a share buyback programme in 2017 of at least USD25 billion for the period between 2017 and 2020. Analysts at Investec said the main reason behind Shell's bid for BG was to protect Shell's "burdensome" dividend payout by utilising BG's imminent free cash flow.
"Over time, the combination will enhance our free cash flow potential, and our capacity to undertake share buybacks, where I expect to see a substantial increase in pace," said Shell Chief Executive Ben van Beurden.
Iain Armstrong, an analyst at Brewin Dolphin says Shell's share buyback plans will help to offset the earnings-per-share dilution from the increase in the number of shares resulting from the cash and shares takeover terms. Nevertheless, the reduction in return on investment capital in the near term is significant, and the boards of both sets of companies will have a huge task on their hands to convince shareholders, he says.
"Ultimately, we think that they will succeed and there will be one less company for analysts to follow," Armstrong adds.
Brewin Dolphin added the combination will increase Shell's oil and gas reserves by around 25%, while the combined company will benefit from production increasing by around 20%.
BG Group's history spans back to the 1950s when it was part of the UK's Gas Council and then British Gas. British Gas was then privatised in 1986, and then separated into two separate companies, BG and Centrica PLC in 1997, when BG took charge of exploration and production whilst British Gas was taken over by Centrica.
In 2000, another demerger saw two new public companies form, BG Group and Lattice Group. From then on, BG Group focused on developing a portfolio of major gas assets in key countries such as Egypt, Trinidad and Tobago, Kazakhstan and in the UK North Sea to the point where it is now operating in over 24 countries.
The deal sparked a rally in other oil and gas related stocks, as traders suggested it may drive a wave of consolidation in the sector.
BP PLC shares were up 1.5% to 461.7 pence on Wednesday afternoon, one of the best performers in the FTSE 100. On the FTSE 250, Tullow Oil PLC shares were up 9.7% to 329.4803 pence to be the best performer in the index, while Ophir Energy PLC and Premier Oil PLC also saw their share prices rise.
Augustin Eden, an analyst from Accendo Markets, said the deal "could mark the beginning of a merger and acquisition rave, much like the one we saw in the late 1990s where all manner of small oil and gas stocks were snapped up by larger ones ? leading to the group of heavyweight oil majors we know so well today in the likes of Exxon Mobil, BP, Chevron, and the aforementioned Royal Dutch Shell."
"The recent oil price doldrums are making for tough waters to navigate for smaller firms such as Gulf Keystone Petroleum, Tullow Oil and their small cap peers, and investors will be eyeing energy stocks closely this year," Eden adds.
Marc Kimsey, a senior trader at Accendo Markets, is of the view that the deal will prompt sector consolidation. He noted BG shares have dropped 30% in the past year, echoing Ben van Beurden's statement that Shell's acquisition looked attractive in the current environment, and said Tullow, Premier Oil and Petrofac have all seen big declines over the same period.
He adds, however, that the majors, Shell and BP, have only dropped 10% over the same period, "leaving them in the position of predator rather than prey".
By Joshua Warner; joshuawarner@alliancenews.com; @JoshAlliance. Additional reporting by Sam Unsted; samunsted@alliancenews.com; @SamUAtAlliance.
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