Since October, there have been two large acquisitions by US oil and gas giants, involving a total amount of nearly US$120 billion. Among them, Exxon Mobil (XOM) announced the acquisition of Pioneer Natural Resources (PXD) in early October, involving a total amount of US$59.5 billion. If debt is included, the total acquisition value reaches US$64.5 billion, which is the largest merger and acquisition in the U.S. energy upstream in decades; in late October, Chevron (CVX) announced the acquisition of Hess (HES). According to the merger and acquisition plan, both of the above-mentioned acquisitions will be completed in the first half of 2024. Industry insiders believe that this may be the beginning of mergers and acquisitions in the U.S. energy industry.
It is worth noting that both acquisitions adopted an all-stock payment method, that is, they did not involve any cash transactions and were carried out in the form of stock exchange. This method avoids the impact of oil price fluctuations on the acquirer and the acquired party. In addition, from a purpose perspective, both acquisitions focus on improving their own production capacity and cash flow.
However, in the secondary market, investors are still divided on the impact of the above-mentioned acquisitions. Some investors believe that the acquisition dilutes the rights and interests of existing shareholders. In this regard, Chevron has stated that it will increase the repurchase amount by increasing the repurchase amount in 2024. dividend yield to offset some of the impact.
The two major oil and gas giants’ all-stock acquisition of new targets may start a wave of mergers and acquisitions in the U.S. energy industry
What is special about this large-scale merger between ExxonMobil and Chevron is that they are all-stock acquisitions. In this regard, Chevron Chief Financial Officer Pierre Breber said: “If you use cash, you may put yourself in a situation where you cannot reach a stable deal. If oil prices rise, the acquirer will win; if oil prices fall, the acquirer will win.” , the seller will win. The all-stock transaction now is about trying to structure a deal that works for both parties. Because we are in a period where oil prices can go up or down significantly.” Under the acquisition agreement, Pioneer Natural Resources shareholders can use each share of Pioneer Natural Resources
to Resource Company stock in exchange for 2.3234 ExxonMobil shares. Hess shareholders will receive 1.025 shares of Chevron for each Hess share they hold.
Judging from the share price of the acquired company on the day the plan was announced, ExxonMobil’s pricing for Pioneer Natural Resources was an 18% premium to the closing price of that day, and Chevron’s purchase price was a 5% premium to Hess’s closing price.
But from a valuation perspective, Hess’s valuation is significantly higher than that of Pioneer Natural Resources. Data on November 2 showed that Pioneer Natural Resources’ price-to-earnings ratio was 13 times, while Hess’s price-to-earnings ratio was 30.95 times.
Market analysts believe that another reason why Hess shareholders can accept this price is that the all-stock acquisition has greater tax advantages for Hess shareholders. It is worth noting that 10% of Hess’ shares are in the hands of the family of the company’s CEO. In addition, exchanging its shares for shares of Chevron, which is larger and financially stronger, and whose dividend yield is much higher than that of Hess, would also be attractive to its shareholders.
The market generally believes that with the acquisitions of Exxon Mobil and Chevron, the wave of mergers and acquisitions in the U.S. energy sector will kick off. “These two major transactions show that U.S. oil and gas giants are betting that oil and natural gas will be the future Remaining at the heart of the global energy mix for some time.”
Sources say top Permian Basin producer Devon Energy (DVN) is eyeing targets including Marathon Oil (MRO) and CrownRock. Natural gas producer Chesapeake Energy (CHK) is considering acquiring Southwestern Energy (SWN). KeyBanc analyst Tim Rezvan reminded that ConocoPhillips (COP) is the largest potential participant in oil and natural gas integration and has not yet reached a major deal this year. ExxonMobil Chief Financial Officer (CFO) Kathy Mikells also told the media that although it has acquired Pioneer, it does not rule out ExxonMobil launching another merger and acquisition in the short term.
Acquisitions focus on increasing production and free cash flow
In fact, production growth has been a top concern among investors for oil and gas majors as some U.S. wells are drying up. Judging from the above two acquisitions, the acquisitions of oil and gas giants are focusing on increasing oil and gas production and corporate free cash flow.
ExxonMobil’s acquisition of Pioneer Natural Resources focuses on the Permian region. The Permian Basin is currently the most productive drilling region in the United States, and Pioneer Natural Resources owns several of the largest undeveloped oil fields in the United States in the Midland Basin area of the eastern Permian. ExxonMobil CEO Darren Woods said: “Pioneer is the clear leader in the Permian with a unique asset base and deep industry accumulation, and the combination of the two companies is expected to provide far more than either company has in the past. Long-term value creation on an independent basis.”
ExxonMobil said the combined company would be able to produce 2 million barrels per day in the Permian region by 2027. Globally, ExxonMobil aims to produce 5 million barrels per day by 2027, which would account for about 5% of total global oil supply. ExxonMobil produced 3.7 million barrels of oil per day during the quarter. By the third quarter of next year, production is expected to reach 4.3 million barrels.
Among Chevron’s acquisitions, Hess’ assets in Guyana have attracted the most attention. Guyana’s oil fields are among the best in the world from a scale and production cost perspective. After the acquisition is completed, Chevron will hold a 30% stake in the Guyana oil exploration project. Interestingly, ExxonMobil also has a stake in the mine and is the largest owner and operator of the project.
Public information shows that Guyana’s oil fields hold the equivalent of more than 11 billion barrels of crude oil and are accelerating development. It currently produces more than 300,000 barrels of oil equivalent per day. According to Exxon, the project could produce about 800,000 barrels by 2027.
Pierre Breber said Guyana could produce until the 2030s, with four years of exploration remaining and Chevron drilling 10 to 12 wells next year. Chevron expects the acquisition to boost its production and free cash flow for five consecutive years.
Tianfeng Securities commented on the two mergers and acquisitions that the giants are looking for a balance between growth and cash flow, and adopt M&A expansion instead of increasing investment in exploration and development, which reflects their emphasis on cash flow.
Chevron expects annual free cash flow growth to exceed 10% if international oil prices reach $60 per barrel.
Valuation premiums give oil and gas giants an advantage, and they remain the best bets on rising oil prices
It is worth noting that the form of an all-stock transaction is beneficial to oil and gas giants because their stocks are valued at a premium relative to small drillers.
Wind data shows that as of November 2, the median price-to-earnings ratio (TTM) of the top 40 U.S. oil and gas companies ranked by market value was 8.5 times, while Exxon Mobil and Chevron were 10.5 times and 10.9 times respectively.
TD Cowen analyst Jason Gabelman said: “ExxonMobil’s valuation advantage puts them in a position to do a deal like this.”
As early as the first half of this year, Chevron had completed a deal for Colorado producer PDC Energy. Acquisitions also use all-stock transactions.
However, there is still controversy in the secondary market regarding this transaction method. Because an all-stock acquisition means that the acquirer needs to issue additional shares to complete the transaction, this will dilute the interests of existing shareholders. It is precisely for this reason that on the day when the above two major mergers and acquisitions were implemented, investors “voted with their feet”, and the stock prices of both companies fell to varying degrees.
Neal Dingmann, an analyst at Truist, an American investment bank, lowered Chevron’s target price per share from US$175 to US$169 after the acquisition project was announced, maintaining a “hold” rating. The reason is precisely the deal’s “near-term dilution” to Chevron shareholders. However, he also said that this impact will be partially offset by Chevron increasing its quarterly dividend by 8% to $1.63 per share.
In response to this problem, on the day the transaction was announced, Chevron had pre-announced an 8% increase in next year’s dividend rate and an increase in repurchases, bringing the annual repurchase amount to the repurchase guidance cap of $20 billion.
In 2022, Chevron announced a US$75 billion buyback plan, which is expected to eliminate 25% of the company’s shares in the next 4 to 5 years. At the beginning of 2023, Chevron said it would increase its annual share repurchase target to $17.5 billion starting in the second quarter, a rate that would be 55% higher than last year. According to this dividend plus buyback plan, Chevron is expected to bring a total return of 10% to investors every year.
However, judging from the stock price trends throughout the year, the stock prices of these two giants have been relatively weak since the beginning of this year. As of November 2, Chevron’s stock price fell 14.76% during the year, while Exxon Mobil’s stock price rose only 1.37%. “Stock God” Buffy also reduced his holdings in Chevron in the second quarter.
From an analysis point of view, one of the reasons why the stock prices of the two companies have continued to be under pressure recently is that their third-quarter results fell short of expectations. For example, Chevron’s adjusted earnings per share in the third quarter were US$3.05, a year-on-year decrease of approximately 45% and approximately 20% lower than the market consensus estimate. Affected by this, Chevron’s stock price fell 6% on the day of the quarterly report. Similarly, Exxon Mobil’s third-quarter adjusted earnings per share were $2.27, below expectations of $2.37, and Exxon Mobil fell nearly 2% on the day of the results release.
Both oil and gas giants also face other challenges. For example, some of Chevron’s oil fields are located in conflict areas, and after the acquisition of PDC Energy (PDCE), the price of its main product, natural gas, continues to weaken. For another example, in terms of industry, compared with the same period last year, the current international oil price has dropped significantly.
However, institutions currently generally believe that international oil prices may rush towards US$100 again. Goldman Sachs predicts that Brent crude oil prices will gradually rise from US$85/barrel to US$100/barrel in June 2024.
”For investors looking to bet on higher oil and gas prices over a longer period of time, Exxon Mobil and Chevron are better options,” said Allen Good, director of equity research at Morningstar.
Bank of America analyst Doug Leggett, who recently upgraded Chevron to “buy” from “hold” and raised his price target per share from $190, agrees that the troubles are “traditional operating challenges.” The U.S. dollar was raised to $200. He thinks the Hess deal makes Chevron more attractive. As of November 2, Chevron closed at $148.76 per share.