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Apache, Shell Bid for Fletcher Expected to be Amended

Apache, Shell Bid for Fletcher Expected to be Amended

A joint bid by Apache Corp. and Royal Dutch/Shell Group's Overseas Holdings to buy New Zealand-based Fletcher Challenge Energy Ltd. is still alive despite an initial rejection by the Commerce Commission of New Zealand, which holds ultimate sway over the country's mergers.

Shell, which Commerce Commission officials fear would dominate New Zealand's natural gas market with the Fletcher acquisition, said it would amend the bid and resubmit it as early as this week. Shell anted up $1.03 billion for the buyout, and would get all of Fletcher's international assets, including New Zealand and Brunei. None of the proposed Apache properties, located in Canada and Argentina, were expected to be amended in the new bid.

Houston-based Apache's share of the acquisition would cost the company $600 million, and increase its Canadian holdings by 75%. Located in the western sedimentary basin of Canada, Apache would add exploration opportunities near existing operations and pump up its proven reserve base. Overall, the Fletcher deal would add 713 Bcfe of natural gas in Apache's proved reserves, or about 12% to its current proven reserve base. Apache also would obtain 14 natural gas processing plants and 35 compressor stations.

Nearly three-quarters of the proven Canadian reserves are natural gas, and a third of those reserves rest in the Hatton field, which now produces 35 MMcf/d. Overall, current production from the Canadian properties averages 130 MMcf/d, 670 b/d of natural gas liquids, and 12,200 b/d of oil. In the Hatton field alone, Apache said it expected to drill nearly 100 wells a year for the next few years.

The Commerce Commission of New Zealand, voicing concern that one company (Shell) would control the country's natural gas markets, on Thursday rejected the takeover of Fletcher Challenge Energy, the country's largest energy exploration company.

New Zealand Commission Chair John Belgrave said his department was not satisfied that Shell would not "acquire or strengthen its dominance in the gas production and liquefied petroleum gas production markets" --- basically monopolizing the country's energy markets.

Even though the commission said nothing --- nor would it have any reason --- about Fletcher's divestiture of its Canadian assets, without Shell's participation, the Apache deal will fall apart, too, said analysts. The controversy centers on the New Zealand holdings only. In its current bid, Shell was going to become the dominant oil and natural gas producer onshore in New Zealand, also holding the largest prospects in acreage.

Last week, Shell officials said they would attempt to appease the Commerce Commission, including offering to sell some of the Fletcher assets.

Shell New Zealand Chair Ed Johnson told Radio New Zealand last week that "it would be our view that we'll probably go with an amended or new application which would take into account the concerns and endeavor to address them. We'll start that process as soon as we can get the final report and a debriefing discussion with the commission," expected this week.

Fletcher Challenge officials said that they, too, are still committed to the sale. "We would still like to see the Shell and Apache transaction completed, and are hopeful that Shell and the Commission can find a way forward so that we complete the deal we announced earlier this week," Fletcher Chair Roderick Deane said in a statement. 'We remain of the view that the wider reorganization of Fletcher Challenge is also in the best interests of all shareholders and are determined to press ahead."

The acquisition, if finally approved, would not be the only major buy of Apache's this year. In August, the company raised net proceeds of $433.9 million to fund other acquisitions made earlier, including a deal made in July to acquire Occidental Petroleum's interests in the Gulf of Mexico. In June, Apache bought properties from Collins & Ware in South Texas and the Permian Basin. In fact, before the Fletcher deal, Apache had already announced or completed cash acquisitions totaling $860 million this year alone (see NGI, Aug. 7).

If there is a downside to the Fletcher acquisition for Apache, it might be that some of the new gas production is hedged --- volumes of 75 MMcf/d at an average price of $2.15 per Mcf in 2001, and 24 MMcf/d at an average price of $2.59 per Mcf in 2002. The hedges expire in October 2002. However, Apache said that while a commodity hedge below expected market values normally isn't good, in this case the hedging actually reduced the purchase price. No hedges were put on the oil production, said Apache.

Apache President G. Stephen Farris said last week that the $600 million buy "balances" the company's gas portfolio in North America. Speaking to analysts, Farris said the acquisition was strategic, increasing the company's "natural gas exposure in one of our international core areas at a price of 84 cents/Mcfe based on proved reserves alone. It also adds exploration opportunities in an area with sizable reserve potential."

Just in Canada, Apache would increase its net undeveloped acreage by 200%, and improve both its oil and gas production by 80%, said Farris. Located in the provinces of Alberta, British Columbia and Saskatchewan, the properties comprise nearly 2.4 million net acres, and 60% of the acreage is undeveloped. Farris said there was a "significant upside both on the exploitation and exploration side."

An added bonus: most of the Fletcher properties are near existing Apache operations in Alberta and northeastern British Columbia, and Farris indicated that Apache plans to operate 80% of the properties. It already has identified more than 300 drilling areas.

The deal was put together in early August, when Shell offered about $2.3 billion (Australian) to buy Fletcher Challenge Energy, which had been spun off from Fletcher Challenge Group. To precipitate the deal, Shell offered to buy 1.64 million restricted shares of Apache common stock for $100 million ($60.85/share), giving Apache an opportunity to take over the assets Shell did not want.

Under terms of the stock arrangement, Shell would hold the Apache stock for at least a year, but Farris said that when the energy giant does sell it, he expects a lot of money to be made, referring to Apache's increased value following the transaction, which jumped 15% to $63.38 in early trading following the announcement last week.

If the New Zealand Commerce Commission changes its mind and approves the deal, Apache and Shell want the acquisition to close in the first quarter of 2001. Interim production sold by Fletcher will be applied to the acquisition price, currently estimated to be about $95 million at the end of 2000.

Apache's latest acquisition looked good to analysts, who overall praised the move and raised their earnings estimates. Credit Suisse First Boston raised its target price on Apache to 75 from 70 versus close of 55.56. Its estimate for 2001 was raised to $4.25 from $3.97. Dain Rauscher Wessels raised its rating on the company to strong buy.

Bear Stearns, noting that this was the "fourth significant asset purchase of the year" for Apache, said the Fletcher acquisition "should play into Apache's exploitation strengths." Its target now is $72, and analyst Ellen Hannan said the "low acquisition cost and high gas commodity price make this a very accretive deal."

PaineWebber's William Featherston also raised his forecast, and said "in keeping with its recent history of proved reserve acquisitions, Apache has reduced its downside financial risk by entering into costless collar hedges at very attractive prices."

Carolyn Davis, Houston

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