Olso, Norway-based Norsk Hydro said Monday that it locked in price collars on the majority of Spinnaker Exploration's oil and gas production for the next three years. Spinnaker's shareholders will vote next month on whether to approve a proposed $2.56 billion buyout by Hydro, which expects to conclude the acquisition immediately after the shareholder vote.
Through a combination of crude oil and natural gas options, Hydro locked in a minimum value of $1.6 billion in revenues from Spinnaker's expected production, which is equivalent to about 63% of the purchase price it will pay next month given a favorable shareholder vote. The hedge secures the value of short-term cash flows and thereby protects the economics in the acquisition against declining oil and gas prices.
Hydro has secured a West Texas Intermediate crude oil price between $45/bbl and $71.45/bbl on 15.4 million boe for the three-year period. The hedging strategy consisted of buying put options with a strike price of $45 and simultaneously selling call options with a strike price of $71.45, resulting in zero premium paid by Hydro for the hedge. The options will be settled quarterly based on the average crude oil price during the quarter.
For Spinnaker's natural gas production, Hydro purchased put options with a strike price of $7.50 MMBtu on about 121 Bcfe of production (20.5 million boe) for the three-year period. The options have a deferred premium of US$0.78/MMBtu, which means that for natural gas prices below $8.28/MMBtu Hydro will realize a price of $7.50/MMBtu, and for natural gas prices above $8.28/MMBtu Hydro will realize the market price less the premium of $0.78/MMBtu. The options will be settled monthly based on the prevailing natural gas spot price at each settlement date.
In total the hedged oil and gas volume amounts to 35.9 million boe, which corresponds to 33,000 boe/d for the three-year period, starting at 25,000 boe/d in 2006 and increasing to 42,000 boe/d in 2008.
The hedging instruments will be accounted for at fair market value with changes in their fair market value reported in earnings each quarter. In Hydro's segment reporting the effect of the hedging instruments will be included in Hydro Oil & Energy's earnings.
Hydro said it is satisfied with the achieved prices. They establish an effective minimum price of US$45/boe and allows the company to participate in a significant part of the potential upside in today's volatile commodity markets.
Hydro announced its Spinnaker purchase on Sept. 19, calling it "an important breakthrough in Hydro's international growth strategy." CEO Eivind Reiten cited the deepwater growth potential in the Gulf of Mexico, Hydro's expertise in deepwater exploration and production, and Spinnaker's "unique skills and acreage position in the region," and reasons for the deal.
Houston-based Spinnaker operates mainly in the Gulf. It has about 80 employees and a strong exploration record. The company has drilled 176 wells in the region with a 60% success rate and has an extensive seismic database covering most of the Gulf with significant exploration acreage, both deepwater and deep-shelf prospects. The company also has exploration acreage in Nigeria.
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