Merger, acquisition talks twisty

 MERGER and acquisition  talks are often tortuous as each side haggles over prices and conditions, but anyone expecting Australia’s Oil Search Ltd to conclude a deal soon with France’s Total SA and InterOilto join their Papua New Guinea gas project may be thinking wishfully.

Oil Search’s share price has bounced around since it said last Dec 9 that it’s in talks about getting involved in developing the Elk and Antelope natural-gas discoveries in PNG that may contain more than five trillion cubic feet of natural gas.

Three days earlier, Houston-based, PNG-focused InterOil agreed to sell a majority interest in the discoveries to Total in a deal worth up to US$3.6 billion (K8.71 billion), depending on how much gas is confirmed to be there. 

Total hinted at a selldown of a combined 19.3% stake in the gas fields when confirming the deal with InterOil, but didn’t name the prospective partner.

The performance of Oil Search’s stock is significant, as it will likely need to issue new shares to fund a deal – unless it decides on an asset swap with Total, perhaps involving a minority stake in its Taza oil and gas discovery in the Kurdistan region of Iraq.

Issuing new shares isn’t easy to do right now. 

Any capital raising would likely happen at a discount to the prevailing stock price, which ended trading in Sydney the other Friday at A$8.14  (K17.28), irritating existing investors. 

But it is the potential blow it would inflict on the government in PNG that is more likely to stay Oil Search chief executive Peter Botten’s hand for a while.

Here’s why: In late 2008, PNG under former prime minister Michael Somare agreed to a deal with one of Abu Dhabi’s sovereign wealth funds to raise A$1.68 billion (K3.58 billion) to pay for its share of the cost of developing the US$19 billion (K46 billion) PNG LNG gas-export project, operated by Exxon Mobil. 

The agreement involved a five-year exchangeable bond covering the PNG government’s entire 17.6% stake in Oil Search, since diluted to 15%.

That deal was completed in March 2009, at which point the clock began ticking on when the fund, known as International Petroleum Investment Co., or IPIC, could exchange its bond for the shares.

The catch is that IPIC’s bond has a strike price of A$8.55 (K18.22)  a share. If Oil Search’s stock is trading below that level when the bond matures in March this year, then PNG’s leaders will have to tap the country’s coffers to make up the difference. For example, if Oil Search trades at A$8 (K17) on that date, then the PNG government must bridge the A$0.55-cent gap per share out of its own coffers.

As a result, issuing new shares at a discount to fund a deal with InterOil and Total is problematic—especially for a company like Oil Search, which has most of its operations in Papua New Guinea. Oil Search’s shares would likely fall when trading restarts to accommodate the additional stock.

PNG’s government, led by Prime Minister Peter O’Neill, isn’t likely to want to drain valuable cash reserves to make up a bigger discount to the A$8.55 (K18.22) strike price when IPIC’s bond matures. Indeed, the government would prefer to eliminate the bond altogether by buying it back from IPIC so it can retain its stake in Oil Search, according to a person familiar with the matter. The country has been courting lenders to enable it to do so.

Botten didn’t return a call for comment. Spokesmen for InterOil and Total weren’t available for comment. Petroleum and energy minister William Duma said he wasn’t immediately able to comment.

John Hirjee, an energy analyst at Deutsche Bank, has another take on the timing of any deal. 

He thinks Total will want to appraise the gas reserves at the Elk and Antelope fields further before rushing to bring in a new partner. 

If the French company finds there is enough gas to support a new gas-export project then it makes partnering with Oil Search less attractive.

The flip side is that a lack of reserves could tempt Total and InterOil to look to supply gas to existing export facilities, increasing the appeal of Oil Search as a partner because it is already a shareholder in the PNG LNG project. Oil Search owns 29% of PNG LNG, which is nearly complete and on track to ship its first cargoes of liquefied natural gas to Asia mid year. – The Wall Street Journal