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China's CNOOC Takes Another Run at North America

Seven years after it abandoned a bid to acquire U.S. oil and gas producer Unocal Corp., China's CNOOC Ltd. is making a run for Canada's Nexen Inc. with an offer in the same ballpark as what it proposed to pay for Unocal. Politics and trade policy are expected to be features of debate over the deal as CNOOC seeks approvals in Canada and the United States.

CNOOC has offered US$27.50/share (about $15.1 billion) in cash for Nexen in a deal it said would expand CNOOC's overseas businesses and resource base and increase the capital available for development of Nexen assets.

"Nexen will complement CNOOC Ltd.'s large offshore production footprint in China and extends CNOOC Ltd.'s global presence with a high-quality asset base in many of the world's most significant producing regions -- including Western Canada, the UK North Sea, the Gulf of Mexico and offshore Nigeria -- focused on conventional oil and gas, oilsands and shale gas," CNOOC said. "In addition, Nexen management's current mandate will be expanded to include all of CNOOC Ltd.'s North American and Caribbean assets."

The price represents a premium of 61% to the closing price of Nexen common shares on July 20 and a premium of 66% to Nexen's 20 trading-day volume-weighted average share price. Total cash consideration would be paid for Nexen's common and preferred shares, and Nexen's current debt of about US$4.3 billion would remain outstanding. The deal, expected to close in the fourth quarter of 2012, would be funded by CNOOC's existing cash resources and external financing.

The deal would be the third test in four years of Canadian tolerance for foreign takeovers of national economic pillars. Calgary-based Nexen is Canada's seventh-largest oil and natural gas producer. Investors last Monday immediately bid up Nexen shares to the neighborhood of the deal price in heavy trading on the New York Stock Exchange. On Friday Nexen shares were trading around $25.65 after setting a new 52-week high of $26.21 earlier in the week. Within the last 52 weeks, the stock has traded as low as $13.63.

"The acquisition reflects our strong belief in Nexen's rich and diverse portfolio of assets and world-class management and employees," said CNOOC Chairman Wang Yilin. "This is an exciting opportunity for us to build on our existing joint venture relationship with Nexen in Canada, and to acquire a leading international platform in the process."

Nexen had average production of 207,000 boe/d (after royalties) in the second quarter. Nexen had 900 million boe of proved reserves and 1.12 billion boe of probable reserves as of Dec. 31. In addition, at the end of last year Nexen had "best estimate contingent resources" of 5.6 billion boe, in accordance with Canadian accounting standards, predominantly in the Canadian oilsands.

"This transaction delivers significant and immediate value to Nexen shareholders. The Nexen board is unanimous in its view that the transaction is in the best interest of Nexen and recommends shareholders vote in favor of the transaction," said Nexen Chairman Barry Jackson.

Following the announcement, the Alberta government produced a terse and carefully worded statement affirming that the province is open for business but steering clear of forthcoming controversy over the Nexen deal. Energy Minister Ken Hughes emphasized that all participants in the Alberta oil industry must comply with provincial and federal regulation without playing national favorites.

"[This] potential transaction is further evidence of the vital importance of Alberta's oil sands to meet global energy demand," Hughes said. "The oilsands have already drawn investment from China, the U.S., Norway, Japan, South Korea, France, Thailand and the United Kingdom. The [CNOOC] offer is subject to approval by the federal government under the Investment Canada Act. Operations in the Alberta oilsands must operate under existing regulatory frameworks, employment standards, safety codes and environmental laws."

In Ottawa, Natural Resources Minister Joe Oliver released a statement affirming that the federal government has approval power over the proposed deal and will review the transaction.

CNOOC is China's largest producer of offshore crude oil and natural gas and one of the largest independent oil and gas exploration and production companies in the world. It has four major producing areas in offshore China as well as oil and gas assets in Asia, Africa, North America, South America and Oceania. As of Dec. 31, CNOOC owned net proved reserves of 3.19 billion boe, and its net production averaged 909,000 boe/d.

The Chinese company has been no stranger to the U.S. shale patch, having participated in a number of deals with Chesapeake Energy Corp. (see NGI, Feb. 7, 2011). CNOOC has also been a joint venture partner with Nexen in the Gulf of Mexico (see NGI, Dec. 5, 2011).

CNOOC's bid for Nexen immediately raised economic and political questions on both sides of the U.S.-Canadian border. Five years ago a bipartisan coalition in Congress blocked an $18.5 billion bid by CNOOC for Unocal. Chevron Corp. won that prize for $17.5 billion, $1 billion less than what CNOOC was offering (see NGI, Aug. 8, 2005). Canada also is reluctant to turn over key elements of industry to foreign industrial empires.

The skeptics are potent. In late 2010 the Canadian government sided with vehement provincial opposition to reject a C$38.6 billion attempt by Australian mining giant BHP Billiton Ltd. to take over Potash Corp. of Saskatchewan Inc., a global fertilizer producer based in its namesake province. The scheme jeopardized a "strategic resource" for Canada, said the government in Ottawa at the time. Two years earlier, in 2008, federal authorities also intervened to stop a proposed takeover of the aerospace division of Vancouver-based MacDonald Dettwiler & Associates Ltd. by a U.S. heavyweight in the field, Alliant Techsystems Inc. The explanation in Ottawa was that the target of the deal represented a critical ingredient in Canadian know-how and technology development.

The government in Ottawa retains power to review and stop large foreign takeovers under decades-old legislation called the Investment Canada Act. The law authorizes a specialized agency and the federal cabinet to demand proof that proposed deals represent significant net benefits to Canada.

The deal is bound to be viewed critically from a perspective of guarding national economic assets that is deeply rooted in the Canadian business and political establishment. The perspective showed most clearly about two years ago, in a public statement by four Canadian household names in industry, government and finance: Calgary corporate pillar Richard Haskayne, former Alberta premier Peter Lougheed, insurance baron Dominic D'Alessandro and Montreal money manager Steve Jarislowsky.

"One proven approach is to set a ceiling on foreign ownership," Haskayne said as the group's spokesman. "We have examples like the 20% limit on foreign ownership of Canadian banks. If we didn't have that in the [federal] Bank Act, the Canadian banks wouldn't be here today. Think of where we'd be now if they had been taken over by American banks." The thinking behind the protective attitude is straightforward. "As Canadians we should say to international business that if you want to take on the risks of acquiring assets and building operations, come on in, but if you want to come in by buying companies, that's different."

In the United States, Sen Charles Schumer (D-NY) last week urged Treasury Secretary Tim Geithner to withhold approval of the deal in order to secure better access to China for U.S. companies, according to press reports.

Wells Fargo Securities analyst David Tameron wrote last Monday that "the reluctance from U.S. regulators to allow a Chinese NOC [national oil company] to purchase a U.S. independent has made the Canadian E&Ps relatively more attractive to investors, in our view. That said, we think U.S. regulators would likely approve any corporate acquisitions for most entities outside of Chinese control." Noting ongoing growth and economic development in China, Tameron wrote that the country's energy use will continue to expand. "It is hard to imagine the Chinese oil companies are done [acquiring] here. Following this deal, we continue to see an appetite from other Asian and European oil companies to gain exposure to the North American Energy markets."

In Canada, CNOOC has a stake in MEG Energy Inc., OPTI Canada Inc. (Nexen's partner in Long Lake steam-assisted gravity drainage production facilities and upgrader), and a 60% interest in Northern Cross (Yukon) Ltd.

Nexen assets in the United Kingdom, United States and other countries would continue to be managed from its regional offices, and CNOOC would retain the current management and employees in those operations as well as continue to work with local suppliers.

CNOOC said it would establish Calgary as the head office of its North and Central American operations; retain Nexen management and employees; enhance Nexen's planned capital expenditure program, investing significant capital in Canada and in Nexen's other international assets; list its common shares on the Toronto Stock Exchange; support First Nations and local communities through charitable activities; and continue to support oilsands research at Alberta universities and participate in Canada's Oil Sands Innovation Alliance.

CNOOC said it is committed to Nexen's assets in the United Kingdom, including investment plans for maintenance and development of all producing, development and exploration assets with opportunities for continued cooperation with U.K.-based suppliers. In the United States, investments in exploration and development in the Gulf of Mexico would be maintained. In Nigeria, CNOOC would continue Nexen's partnership in the Usan project and maintain its active development, appraisal and exploration drilling campaign on Nexen's Nigerian acreage.

The deal includes a nonsolicitation covenant that entitles Nexen to accept a superior proposal and a right for CNOOC to match any superior proposal. CNOOC could be entitled to a breakup fee of US$425 million if the deal doesn't close. Closing is subject to customary conditions, including court approval of the arrangement; approval of two-thirds of the votes cast by holders of common shares; and government and regulatory approvals.

Nexen started out as an Alberta arm of global oil, as a subsidiary of Occidental Petroleum. Majority ownership was sold to Canadians in the 1970s and 1980s, in response to strong government and investor interest in expanding home-grown control of the energy industry.

Moody's Investors Service affirmed the "Aa3" issuer rating and senior unsecured bond rating of CNOOC Ltd. and affirmed the "Aa3" issuer rating of CNOOC parent China National Offshore Oil Corp. The ratings outlook is "stable." The acquisition, once finalized, would strengthen CNOOC's position as one of world's largest independent exploration and production companies, with an expected 30% increase of proved reserve and 20% increase in production, Moody's said. The acquisition would also improve CNOOC's portfolio diversification.

"After the transaction, CNOOC's offshore reserves will account for 44% of its global total, compared to its current level of around 29%," said Simon Wong, Moody's international lead analyst for CNOOC. "CNOOC has a track record of expanding its reserves and production through overseas M&As. The current ratings have already factored in its high acquisitive appetite and relevant degree of event risk."

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