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Burlington, Poco Turn Industry Eyes To Canadian E&P

Burlington, Poco Turn Industry Eyes To Canadian E&P

With its deal to acquire Poco Petroleums for $2.5 billion, Burlington Resources could be leading a charge of U.S. E&P companies heading to Canada for relatively cheap gas assets at a time when Canada is expected to play a large role in meeting strong gas demand growth.

The acquisition of Calgary-based Poco Petroleums Ltd. of Calgary would give Houston-based Burlington Resources Inc. (BR) a Canadian presence, add 500 MMcf/d of gas production and make the gas-focused company the third largest holder of gas reserves in North America. BR already ranks first among U.S. independent producers in terms of proved U.S. reserves.

The deal is viewed positively by industry analysts who see no duplication of assets and the expectation of good things to come from Poco's assets now that they will be backed by Burlington's financial clout. "Certainly the reception of Burlington wherever they presented [the deal] over the last week has been exceptional," an analyst said. "They did a lunch in Toronto that was extremely well attended and very well received. A lot of people in Toronto, that's the first time they've ever seen Burlington."

The deal was announced late Monday. Tuesday investors set upon Canadian gas stocks. Poco's shares rose by C$1.80 (16.09%) to C$15.20 on the Toronto Stock Exchange. Anderson Exploration, another big-name Canadian gas producer that is often compared to Poco, was the exchange's second most actively traded stock, rising C$2 to reach a new high for the year of $22.

Martin Molyneaux, an oil and gas analyst with FirstEnergy Capital Corp. in Calgary, said Burlington has effectively re-priced Canadian gas reserves with the Poco deal. He said the deal pegs Poco's proven reserves at C$1.45/Mcf for a premium as high as 38% when compared to other recent deals. "Whatever way you look at it you've re-priced Canadian natural gas reserves in the ground by something around 20%," Molyneaux said. Noting that he and FirstEnergy are bullish on the future for gas, Molyneaux said Burlington got a good deal.

Molyneaux also said Canadian companies are still comparatively cheaper than their American counterparts, and most of the Canadian companies have higher growth rates. In other words, copycat transactions "wouldn't surprise me a whole lot. If you can use a premium priced U.S. dollar versus a Canadian dollar, Canada looks cheap.

"Anybody who is of any real size in the gas business has to think across the border." Off the top of his head, Molyneaux named Anadarko, Apache and Coastal.

"More than a year ago, we identified the western Canadian sedimentary basin as an excellent growth opportunity for BR," Burlington CEO Bobby Shackouls said during a conference call. "The basin is relatively immature with an excellent resource potential, one of the few such basins left in North America. We then began an extensive screening process looking for companies and/or asset packages that had the following characteristics: A natural gas focus, a strong underlying resource base, access to frontier areas, control of existing infrastructure, critical mass and a strong management and technical team. Obviously we preferred a negotiated transaction. We believe that the Poco transaction meets all of these criteria. This step - and let me assure you it is merely one step among many we intend to take - fits perfectly with our strategy and provides us an engine for future growth."

Such a lengthy and extensive hunt for Canadian assets was earning Burlington a reputation as a shopper and not a buyer, Molyneaux said.

During the conference call with Shackouls, Poco CEO Craig W. Stewart came just short of saying "I told you so" when telling the Poco gas story. "We have preferred natural gas when others did not. Prices were depressed, differentials were wide, and the infrastructure was under development. But we foresaw a bright future for North American natural gas. And today we're seeing our expectations on the natural gas story coming to fruition, and at a time when our opportunity set is broader and deeper than ever. In this environment we could have certainly continued to successfully pursue our growth strategy as an independent entity, but we saw a greater opportunity for our shareholders through the merger with BR."

The combined Burlington-Poco would be the fourth-largest gas producer in North America and the largest among independent E&P companies. Combined worldwide reserves were 9.9 Tcfe as of Dec. 31. Combined 1998 worldwide gas production was 2.1 Bcf/d; oil production was about 106 thousand barrels/d; the total net worldwide acreage position was 21.4 million acres, with 3.6 million acres in Canada; and operating cash flow was about US$1.1 billion (C$1.6 billion). On Monday, combined equity market capitalization was about US$9.9 billion (C$14.6 billion).

"The addition of Poco's 3.1 million acres of undeveloped leasehold to our quality fee mineral and acreage positions will significantly enhance our inventory of high-potential exploration inventory," said Shackouls. "The combined company will be financially strong, with long-term debt comprising approximately 42% of the book capitalization of the company. BR, with Poco as its partner in Canada, will be better positioned than at any time in its history to continue the implementation of our aggressive, global, value-oriented capital program."

Most of Burlington's production came out of the San Juan Basin of New Mexico. It also has operations in the Midcontinent, including the Rocky Mountains, the deep-water Gulf of Mexico, the East Irish Sea, the North Sea, North Africa and Latin America. Its 2Q99 net income was $15 million, down from $23 million. Still, the results were an improvement over the previous two quarters, noted Shackouls.

Shackouls said BR currently has no assets north of the U.S.-Canadian border and that there is virtually no overlap between the two companies' operations. It is expected that nearly all employees of Poco will become part of the combined enterprise, which will continue to have a major presence in Calgary.

Poco pursues high-impact, deep gas exploration in its northern region and liquids-rich gas in its western region. The smaller eastern region is in harvest mode. Poco, which is Canada's ninth largest gas producer with 1998 average production of 490 MMcf/d, last month made a deal with Chevron in which it secured 50% ownership of its pick of prospects from 400,000 Chevron acres (see NGI July 26).

Earlier this month, Poco announced results for the first half of 1999 that included higher volumes for gas-related production and a major reduction in finding and development costs. Gas production increased 6% over the first half 1998 to 502.2 MMcf/d, while gas liquids production rose 17% to 22,457 barrels/d. Daily crude oil production declined 22% to 16,352 barrels/d due to Poco's strategic shift away from oil drilling and the sale of crude oil properties in 1998.

"Poco recognized a number of years ago that the traditional discount that Canadian gas was trading for relative to prices in the United States would disappear," Stewart said at the time. "We also believed strongly that prices would rise in North America as a whole, and positioned our production base towards natural gas. Importantly, we also invested heavily in land and seismic, allowing us to pursue a large ongoing natural gas-directed exploration program. By joining forces with Burlington Resources, the preeminent 'super-independent' E&P company, we will become a major part of a combined enterprise with the size and scope, operating skills and financial resources to more aggressively pursue the growth opportunities we have both identified in Canada, the United States and around the globe."

Burlington shares closed down Tuesday $2.56/share at $42.75/share, a 5.66% decrease as analysts fretted that Burlington is paying too much for Poco.

Poco shareholders will receive BR common equivalent shares (exchangeable shares) based on a fixed exchange ratio of 0.250 exchangeable shares for each Poco share held. Based on BR's closing stock price on Monday the exchange ratio represents an implied price of about C$16.78 (US$11.33) per Poco share. Given the assumption by BR of about US$750 million (C$1.1 billion) of Poco debt, the transaction has a total value of about US$2.5 billion (C$3.7 billion). The agreement was unanimously approved by the boards of both companies.

The transaction is expected to be accounted for as a pooling of interests and to qualify as a tax-free reorganization. It is anticipated that, excluding the impact of any one-time transaction charges, the deal will be immediately accretive to earnings, cash flow and net asset value per share in 1999 and beyond. Deal completion is expected by year-end.

Joe Fisher, Houston

©Copyright 1999 Intelligence Press, Inc. All rights reserved. The preceding news report may not be republished or redistributed in whole or in part without prior written consent of Intelligence Press, Inc.

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