Replies to post #525 on The Rising Influence of Rising Affluence

[DewDiligence]

XOM Can Drop XTO Deal If Congress Restricts Fracking

[Further evidence of how political this deal could become. See #msg-44289380 for background.]

http://online.wsj.com/article/SB10001424052748703581204574600111296148326.html

›DECEMBER 16, 2009, 6:27 P.M. ET
By RUSSELL GOLD

Exxon Mobil Corp. can back out of its $31 billion deal to acquire natural-gas producer XTO Energy Inc. if Congress passes a law requiring stronger federal oversight of a controversial drilling technique.

The merger agreement contains language allowing Exxon to terminate the deal if lawmakers make hydraulic fracturing, known as fracking, illegal or "commercially impracticable."

Fracking is a now-common method that XTO and other natural-gas companies use to produce gas from hard shale-rock formations, which have recently become a major source of natural gas. Water, sand and drilling fluids are pumped into the shale under enormous pressure, creating fractures in the rocks that allow the gas molecules to escape.

Critics contend the practice can cause pollution, especially to drinking water, a charge the industry rejects [#msg-44289380].

A bill in the House and Senate would require the Environmental Protection Agency to regulate fracking under the Safe Drinking Water Act of 1974. It would also require disclosure to the public of the chemicals used in fracking fluid.

Rep. Ed Markey (D., Mass), chairman of the House Energy and Environment Subcommittee of the Energy and Commerce Committee, said Tuesday he would hold a hearing early next year into Exxon's acquisition of XTO. Mr. Markey said he plans to look at environmental concerns related to air pollution and water contamination from hydraulic fracturing.

Exxon, based in Irving, Texas, said it is confident that the XTO acquisition will close in the second quarter. It declined to comment on the deal's fracking-law language except to say that the merger agreement "contains a number of customary provisions for transactions of this nature."

But William F. Hederman, senior vice president of energy policy for Concept Capital, a Washington research group that advises institutional investors, said until the Exxon-XTO merger agreement, he had never seen provisions in a deal about the political risks involving fracking.

Even so, he said, bad publicity is probably more of a potential problem in the near term than congressional legislation. "We don't see any serious risk of legislation that would trigger the clause," he said.

Industry executives say the language is a sign that the sector is growing increasingly worried about the political backlash against fracking. If companies can't use the technique to extract gas from shale, the value of XTO and similar companies would plunge and the amount of recoverable gas would drop, they said.

The push for federal oversight is coming mainly from local communities above the Marcellus Shale, which extends from West Virginia across Pennsylvania and into southern New York.

"People who live in these communities are concerned and they don't feel like companies or state regulators are protecting their water," said Amy Mall, a senior policy analyst with the Natural Resources Defense Council, an environmental-advocacy group.

The Exxon-XTO merger agreement was filed soon after the deal was announced on Monday, but the fracking provision was buried in the 76-page document and word of it didn't start to circulate until Wednesday.‹

[old man]

Dew --from another board. Question --Does the US currently tax profits from foreign operations? Your post wasn't clear.
John


Exxon/XTO gas valuations

The Commodity Investor Q&A
With Matt Badiali

ExxonMobil recently offered to pay $32 billion for natural gas producer XTO Energy, a 25% overnight payout for XTO shareholders.

XTO Energy is one of the premier "unconventional" natural gas companies in the U.S. (We discussed unconventional gas here and here.)

Unconventional gas is trapped in shale. Shale is a sedimentary rock made of fine particles of clay and mud deposited at the bottom of ocean basins or giant lakes. The shale that oil and gas companies like has a lot of old plants and algae mixed in. Over time, that kind of shale makes natural gas and sometimes oil.

There are several premier shale plays in the U.S., like the Barnett in Texas, the Marcellus in Pennsylvania, and Haynesville in Arkansas. XTO holds leases in all of them.

Exxon's Big Oil peers began buying into shale plays years ago. Both Chevron and ConocoPhillips bought in 2005. Gas price forecasts were rising and the prices they paid reflected it. But Exxon really hasn't jumped in... until now.

Exxon is notoriously tight with its cash. So did Exxon get a good deal? I think so...

Acquirer
Acquired
Price per MCFE*

ExxonMobil
XTO Energy
$2.31

ConocoPhillips
Burlington
$4.50

Chevron
Unocal
$3.02

*Thousand cubic feet of natural gas equivalent

The overall outlook on natural gas is pessimistic. Basically, there's more gas in storage than we can realistically use up this winter and even more production in our future. If we don't figure out a way to use it, the glut will continue to depress prices. (You can read more on this topic here.)

So why would Exxon buy XTO now? Let's take a closer look...

Exxon's offer is $32 billion in stock. That doesn't take into consideration XTO's $10 billion in net debt. So we'll use $42 billion as the buy price.

On paper, Exxon is buying 13.8 trillion cubic feet of natural gas reserves. But XTO actually has another 14 trillion cubic feet of natural gas that it can't call reserves. The SEC defines oil and gas reserves as "economic" today. Unconventional gas is not economic until it's drilled. You have to fracture the rock to get it out. But shale wells are remarkably consistent, so we know the gas is there.

All-in, Exxon paid $42 billion for 27.8 trillion cubic feet of gas. That works out to $1.50 per MCF... about 50% lower than the recent bottom and 72% below today's prices at $5.50.

When you look at it that way, you can see how brilliant Exxon is at this stuff. Even if gas prices fall all the way down to their record lows, Exxon got a good deal... and so did XTO shareholders.

There are plenty of cheap natural gas producers out there. I put together a table of a few I think might make good buyout targets if Exxon's deal kicks off a trend...

Company
Enterprise Value
Price Per MCFE

Ultra Petroleum
$8 billion
$2.29

Chesapeake Energy
$28 billion
$2.35

EOG Resources

$25 billion
$2.88



Enterprise value is the market cap plus debt, minus cash. It's how Exxon valued XTO. As you can see, these giant gas companies are similar to XTO by that measure. This is where I'd start looking for my next natural gas investment.

Good investing,

Matt