“Energetic” Consolidation

Linn Energy, LLC Market Cap (as of 28/02/13): $8.94bn

Linn Co, LLC Market Cap (as of 28/02/13): $1.36bn

Berry Petroleum Market Cap (as of 28/02/13): $2.5bn

Repsol SA Market Cap (as of 01/03/2013): $27.36bn

Royal Dutch Shell Market Cap (as of 01/03/2013): $212.76bn

The energy sector has been experiencing a consolidating trend with companies trying to exploit superior market power together with the economies of scale that characterize the sector itself. In continuation of the trend, Linn Energy and Linn Co (collectively, the Linn Group) have announced on the 21st of February that they will acquire the independent Californian oil producer Berry Petroleum for an all-stock deal resulting in a $4.3bn total consideration (inclusive of Berry’s debt), or $46.24 per share. This represents a premium of 19.8 percent to the Berry closing price on February 20, 2013, and a premium of 23.1 percent to its one month average price at that date. The transaction, already approved by all the Board of Directors involved, will result in issuance of 1.25 Linn Co common shares in exchange for each share of Berry Petroleum and being an all-stock deal is expected to be tax-free for Berry’ shareholders.

The deal has clear operational synergies as Linn will be able to increase its production by 30% and its gas reserves by 34%. in order to increase its market relevance. Berry has three main basins located in California, Utah and West Texas, so the Linn Group will actually increase its focus on the North American activities that already characterize it, yet without venturing into the new and profitable shale gas operations. Additionally, it is also very accretive, so much that an 8.5% increase in dividends has been suggested and debt metrics have improved bringing the debt coverage ratio to 1.2x. There will be a change of control clause triggered on Berry’s senior notes that will have to be repaid at 101% of par plus any accrued and unpaid interest.

On a side note, this transaction is the first ever in which a public C-Corp has been acquired by an upstream LLC. Linn Co has been advised by Citigroup, while Credit Suisse has advised Berry Petroleum.

At the same time, Repsol SA announced that it will sell some of its liquefied-natural-gas (LNG) assets to Royal Dutch Shell, PLC for $4.4bn in cash, to reduce its heavy debt load while Shell will benefit from an increasing LNG exposure.

Shell also intends to assume $2.3bn in financial leases and debt as part of the deal, including in the transaction the Spanish company’s liquefaction facilities in Peru and Trinidad and Tobago along with an LNG import terminal in Spain. The sale is expected to be completed by the end of the year or in early 2014 at the latest.

This would go a long way toward helping Repsol in protecting its investment-grade credit rating BBB- (one step before junk), which came under threat last year after its Argentine unit YPF was expropriated and nationalized. The transaction also underlines the changing dynamics of the global natural gas trade as the U.S., that are currently experiencing a production boom, open to the prospect of exporting.

Repsol said that the consideration received from the LNG sale would allow it to cut its net debt to $2.2bn, a 75% decrease from the previous level. Shell, already one of the world’s largest oil producers, is increasing its focus on natural gas. It has interests in converting it into clean-burning diesel in Qatar, and it is currently building LNG export facilities in Australia, Africa and Canada. Shell has recently decided to postpone its Artic explorations due to consistent regulatory and technical challenges preventing the company to set up any proper well to speak of, after having invested as much as $5bn into the project. Acquisition of Repsol’s LNG assets seems to be consistent with a renewed focus on more “predictable” ventures.

Shell’s CEO, Peter Voser, said he expects gas to play a significant role over the next 40 years, with much higher growth rates than oil. In a statement, the company said it expects that the Repsol assets, once the deal closes, will provide immediate additional cash flow so the deal is expected to be accretive.