It was mostly a question of "when," not "if," ExxonMobil Corp. would make a mega purchase of some hot oil or natural gas property worldwide. But the news last Monday that it would buy onshore natural gas producer XTO Energy Inc. was a big surprise to a lot of energy analysts. Now some are wondering where the next big transaction in the gas patch will be.
The all-stock transaction represents a 25% premium to XTO's closing share price on Friday, implying a sales value of $17.50/boe for XTO's proven reserves. XTO's output in 3Q2009 was more than 20% above the same period of 2008 -- even though it spent less money.
"Although this is a U.S. deal, it has international potential," said Argus Research Co.'s Phil Weiss. "Exxon has acquired a knowledge base here." The transaction has "big potential internationally" for ExxonMobil to explore and produce from shale natural gas fields.
"The transaction can't help but imply a vote of confidence in both the potential resource size in shale gas and in the majors' outlook for North American natural gas prices," said Simmons & Co. analysts in a note.
Several analysts said the transaction justified ExxonMobil's long-term bullishness for natural gas.
"Notably, thinking about the valuation upside of our coverage portfolio relative to this transaction, we believe Exxon is embedding a low $7 natural gas price and an upper $70 oil price assumption in the context of this acquisition," said SunTrust Robinson Humphrey/the Gerdes Group analysts.
XTO is one of the biggest natural gas leaseholders in the United States and it has been growing its oily assets as well with acreage in the Barnett, Haynesville, Marcellus, Fayetteville and Woodford gas shales, the San Juan/Raton Basin, the Uinta Basin, East Texas Cotton Valley/Bossier Sands, the Permian Basin, Bakken oil shale and along the Gulf Coast. Its assets would boost ExxonMobil's output by 12% and lift its gas weighting to 45%.
Even though the "scale and timing of the acquisition may surprise, as U.S. gas markets look set to remain weak into 2010...Exxon seems prepared to weather some macro weakness for a long-term efficient resource play," said Credit Suisse analysts. At Goldman Sachs, analysts said they "would be surprised if Exxon management were basing the acquisition on materially higher U.S. natural gas prices."
Since its mega-deal with Mobil Corp. in 1998, ExxonMobil has been less flashy with its cash, usually preferring to make bolt-on deals or acquire blocks in the deepwater. However, its profile has evolved especially since Rex Tillerson succeeded Lee Raymond as CEO in 2006 (see NGI, June 5, 2006).
In the past two years Tillerson has expressed his enthusiasm for a variety of energy sources, pushing for more natural gas reserves and driving to build ExxonMobil's renewable fuels business. In August Forbes Magazine recognized the changes, naming ExxonMobil the "green company of the year," for its turn toward gas projects and its bet on renewable energy (see NGI, Aug. 17).
As Oppenheimer analyst Fadel Gheit noted, ExxonMobil "does not make bad acquisitions." The major "can't grow organically. They have to grow through acquisitions."
XTO was a perfect target, said UBS analyst William Featherston. "We believe XTO has one of the premier U.S. unconventional asset bases, yet it traded at a discount to peers," he said.
"WOW! We didn't see this coming," said analysts with Tudor, Pickering, Holt & Co. Securities Inc. (TPH). "This isn't a pure 'shaly' deal because XTO has nice conventional/unconventional mix, but it certainly is a gassy deal," with XTO weighted 80-85% to gas on reserves/production. A "competing or higher offer" is unlikely.
The TPH team questioned whether the transaction would kick off a "major consolidation trend," because the majors "tend to be lemmings around trends like joint ventures/consolidation." Their picks for "major targets" include EOG Resources Inc., Southwestern Energy Corp., Petrohawk Energy Corp., EnCana Inc., Devon Energy Corp., Chesapeake Energy Inc. and Anadarko Petroleum Corp.
It's "hard to grow worldwide" at ExxonMobil's size, said the TPH analysts. "Big bites are necessary" and "$41 billion qualifies as big."
Chad Brand, president of Peridot Capital Management LLC (PCF), compiled a list of the "obvious targets" for takeover candidates, noting that ExxonMobil is paying 6.6 times trailing cash flow for XTO, "so we can expect that to be the yardstick off of which future deal negotiations will be based." Brand's gas-rich candidates almost mirror those by TPH: Chesapeake, Devon, EOG and Anadarko.
What is critical to ExxonMobil's success is keeping XTO's people, said the TPH analysts. They noted that when ConocoPhillips bought Burlington Resources Inc., "everyone left. XTO is top-tier, acquisition-capable, blocking-and-tackling organization that grinds out good returns." It is not an "exploration guru," but a "good executor."
PCF Energy Chairman Robin West agreed. West noted that onshore gas producers are wildcatters -- they specialize in short-term plays, which require constant reinvestments and drilling to maintain production. ExxonMobil operates more sluggishly and is on a long-term investment track.
"The success of this investment will depend on whether Exxon can keep the XTO culture in its team," West said. "It's a different business."
Writing for thestreet.com analyst Jim Cramer asked, "Do you think Exxon is going to buy XTO -- the best of the best -- if it doesn't see the writing on the wall that it needs to have natural gas as part of its filling station repertoire? Do you think Exxon just wants to be in the home heating business? Do you think the most conservative company in the industry is all about just picking up some good domestic reserves when it has ignored doing so for years?
"This is the biggest game-changing transaction in the natgas patch that I can recall, because Exxon just endorsed both its reliability and its cleanliness. Remember, you do not see Exxon bidding on the Iraq fields. While it is doing some exploration across the globe, you bring in XTO because you want to dominate in natural gas at home."
Independent energy analyst Patrick Rau questioned what the acquisition meant for ExxonMobil's view of the North American liquefied natural gas (LNG) market.
"Exxon owns 17.6% of the Golden Pass import facility currently under construction, has proposed the BlueOcean Energy facility off the coast of New Jersey, and tried unsuccessfully to propose Navy Homeport and Pearl Crossing in the last five years," said Rau. "By buying a bunch of U.S. unconventional properties, are they conceding they don't think worldwide LNG will be economic coming into the U.S.?"
Rau agrees that the transaction could be the beginning of more consolidation, which in turn could lead to lower domestic gas production.
"XTO was on pace to grow 2010 production by double digits (percentage-wise), and was on track to spend roughly $3.6 billion in capex [capital expenditures] in 2010," he noted. ExxonMobil "wouldn't give any sort of forward guidance, but they did say on the call the company isn't about growth, but rather generating cash. Read: slower production.
"That seems to me they may rein in XTO's production growth. If there are a few other majors/world energy concerns that buy fast-growing North American unconventional resource companies like Range Resources, Chesapeake, Petrohawk, Southwestern Energy, we could see a dramatic decline in the pace of natural gas growth. It will be interesting to see what kind of comments the U.S. regulatory agencies have on this front, especially considering they freely allowed mega-mergers 10 years ago (Exxon-Mobil, Chevron-Texaco, BP-Amoco, etc.) when commodity prices were low."
There is 10-plus years of data on the aftermarket effects of the big mergers, said Rau, "and we all know what kind of mega-profits the majors have turned in the last few years. If the regulatory bodies nix these deals, then the consolidation obviously won't happen. What the regulatory bodies say about this transaction will have major potential consequences on the natgas industry."
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