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Anadarko Vaults into Spotlight with UPR Purchase
Anadarko Petroleum Corp. laid the foundation to more than double its reserves and production with its purchase of independent producer Union Pacific Resources (UPR) last week. While market reaction to the deal was mixed initially, most analysts agreed that once complete the move will give Anadarko a major presence in virtually every producing territory in North America.
Under the agreement, which was unanimously approved by each company's board of directors, UPR shareholders will receive 0.455 Anadarko common shares for each UPR common share they own. The stock swap is valued at $4.4 billion. Closing is expected in July.
UPR will become a wholly-owned subsidiary of Houston-based Anadarko. The new producing giant will hold significant acreage positions and drilling opportunities in most of the high-potential, gas-rich basins of North America, including western Canada, and the U.S. basins of the Rocky Mountains, the Midcontinent, Texas, and the Gulf of Mexico. These basins today account for 90% of U.S. gas supply, Anadarko said. At currently expected production rates, the reserve life index of the combined companies would be 10.8 years.
The purchase more than doubles Anadarko's North American gas reserves from 2.5 Tcf to 5.8 Tcf. The increase moves the company from the 13th largest company in terms of North American gas reserves to fifth. The increase of production is even more pronounced, as Anadarko will go from 170 Bcf/year (20th place) by itself to 634 Bcf/year (sixth place).
"Given the current outlook for energy markets, now is the time to step up the pace of drilling for new energy reserves - particularly North American natural gas. More energy for America is good news for our shareholders, and it's good news for consumers as well," said Bob Allison, CEO of Anadarko.
Overall, Greg McMichael, an analyst with AG Edwards, said he likes the deal. "I see the move as being very accretive to Anadarko's cash flow and earnings sooner rather than later. Its cash flow could improve as much as 40% per share when UPR is incorporated and Anadarko's earnings could experience a rise in the 10% to 20% range. Quite simply, they have made themselves one of, if not the, major E&P player in North America."
The North American opportunities were the linchpin of the deal, said Irene Haas, a consultant at Sanders Morris & Mundy. "[The new Anadarko's] North American gas production will produce a significant amount of cash flow in the very near future. There is sufficient overlap in the properties involved so it won't be too much of a stretch to fold them all in. The deal also gives Anadarko an entrance into Canada, which is a big plus."
Looking forward, an Anadarko spokesman said 70% of the combined company's production will come from onshore U.S., 16% from Canada and 14% from offshore Gulf of Mexico. It will rely on its growth portfolio and strategy to be an exploration, development and exploitation leader. The company has already identified 100 exploration projects with more than 11 billion barrels of net unrisked reserve potential. It has also identified 50 current projects that could be made more profitable.
"UPR has a wealth of attractive assets, but to be honest, its management has never led it out of the woods," said McMichael. "It seems as though UPR was always paying off debt or over-paying for assets. Because of the fight with their balance sheet, they were never able to fully realize the potential in their assets. Enter Anadarko, which is one of the premier exploration and production companies in the country. Now, I think these assets will be realized."
As an example of UPR's balance sheet problems, McMichael pointed to its 1998 purchase of Norcen Energy Resources for $2.6 billion. "They gained good assets from Norcen, but they are also still trying to pay down the debt they incurred to make the purchase in the first place."
Haas said the deal is not a harbinger of another round of consolidation in the producing industry. "Just because of this move, I don't think the other companies equal to Anadarko's size will feel pressured to make a move. Devon bought PennzEnergy. Apache did a deal with Shell. Burlington merged with Poco. Many of the players have already done their big move. It's a thinner field with stronger players. Anadarko is one of these strong players and improved its position [last week]."
The initial Wall Street reaction to the purchase was negative, as Anadarko's stock price fell more than 10% to $34.50 when the deal was announced last Tuesday, while UPR's stock price only rose 18 cents to $14.68.
"A handful of analysts had knee jerk reactions that weren't favorable to the deal," McMichaels said. "They saw that Anadarko would need to double the amount of its shares outstanding in order to pay for UPR and that led to questions about Anadarko's growth rate. However, the company since then has been very active in educating the community about the positives aspects of the deal and, as a result, the stock price has rebounded."
Anadarko's stock price rose from its low of $34.75 on Tuesday to finish the week at $37. UPR shares have nearly doubled in value since late February climbing from less than $9 Feb. 29 to $16.19/share on Friday.
Under the terms of the deal, Anadarko shareholders will hold 53% of the combined company and UPR shareholders 47%. Based on the Anadarko closing price of $38.69 on March 31, the combined company will have about 243 million shares outstanding and a market capitalization over $9 billion. The transaction has an implied value to UPR shareholders of $17.60/share, representing a 21% premium to UPR's closing price on March 31.
Anadarko said it believes the proposed merger will be immediately accretive to both cash flow and earnings. Anadarko estimates that if the companies were combined for the year 2000, cash flow would have been about $1.8 billion (or about $7.50/share). For the year 2001, given the current outlook for commodity prices, cash flow is expected to increase further, to more than $2 billion (or about $9.00/share). These numbers are a significant increase from the stand- alone Anadarko cash flow of $317 million in 1999 and an expected $600 million in 2000.
The purchase will significantly expand Anadarko's balance sheet. The combined companies would have had a total capitalization of $10 billion, comprised of $5.9 billion of equity and $4.1 billion of debt, on a pro-forma consolidated basis as of year-end 1999.
Yet, while the balance sheet is growing, employment opportunities are dwindling. "We do expect some modest cost reductions with the merger, but that's not what drives this deal. It's about complementary skills and assets that can give us dramatic growth and profitability," Allison said.
Fort Worth, TX-based Union Pacific posted income from continuing operations of $89.2 million, or 36 cents/share last year. It had been involved in a large push to drive down debt by selling non-core assets. The company, which has been rated among the top drilling companies in the U.S. for the past several years, had experienced tough times lately as its stock price has fallen from its 52-week high of $19.38 to less than $9 in late February.
"The merger provides significant benefits to UPR shareholders. It recognizes the value of our core producing assets and our portfolio of projects throughout the Americas. We bring to the new Anadarko skills and experience that are complementary to their exploration strength," said George Lindahl III, CEO of UPR.
The stock-for-stock deal is subject to approval by both UPR and Anadarko shareholders as well as customary regulatory approval. The agreement includes a provision under which UPR and Anadarko granted each other the right to purchase 19.9% of each other's outstanding shares.
Allison will continue to be CEO of Anadarko. Lindahl will become vice chairman of Anadarko after the merger. Five members of UPR's board of directors will join the Anadarko board, subject to Anadarko shareholder approval of the larger board.
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